You’re hearing it pretty much everywhere in markets these days, that interest rates are going to stay “higher for longer”. But what does it actually mean and more importantly, what does that imply for markets?
The simplest way to think about it is that “higher for longer” doesn’t necessarily mean interest rates are going to keep going up. It just means that investors think rates may stay elevated for longer than they previously expected.
Just imagine a situation where markets had been expecting the Fed to start cutting rates early next year. But if inflation remains sticky, the jobs market remains strong and the economy holds up, then traders may start pushing those expected rate cuts further down the road.
That is essentially the “longer” part.
And the “higher” part simply means that rates are staying above the lower levels that markets had previously expected them to return to.
So when that actually happens, the bond market is the one that tends to react first.
Among other things, bond yields reflect where investors think interest rates are heading over time. That means if traders start believing that the Fed will keep interest rates high for another six months, or even longer than that, then yields can rise even if the Fed itself has not actually changed rates.
And this is also why economic data matters so much.
Inflation reports like the CPI and PCE serve to tell investors whether price pressures are cooling quickly enough for the Fed to ease policy. Meanwhile, jobs data such as non-farm payrolls, the unemployment rate and wage growth help answer another question. And that is whether the economy is weakening enough to justify lower rates?
Then, there are growth indicators like the retail sales, business surveys, and GDP data. If those show that consumers are still spending and businesses are still expanding despite high borrowing costs, then the Fed has less reason to rush into rate cuts.
To put things more simply, think of it almost like a scoreboard.
Hot inflation, strong jobs and resilient growth generally add points to the “higher for longer” side. Meanwhile, softer inflation, weaker hiring and slowing growth tend to shift expectations towards lower rates instead.
Once you get that idea, this is where the story moves beyond the bond market.
Higher Treasury yields make government bonds more attractive, which in turn creates competition for stocks – particularly expensive growth and technology shares as valuations are pressured alongside tighter financial conditions. They can also support the dollar as investors are offered better returns on US assets.
For something like gold that does not pay interest, higher yields can make holding the precious metal less attractive. But that needs to be balanced out against inflation hedging and safe-haven demand, so the relationship there is a bit more complicated.
But in the more traditional sense, higher yields will eventually filter through to mortgages, corporate loans and other borrowing costs across the economy.
So the next time when markets start talking about “higher for longer”, I would not just focus on whether the Fed is going to hike rates again.
The bigger question is how long borrowing costs are likely to stay elevated, because that is what ultimately feeds through to bond yields, stock valuations, the dollar, gold and the wider economy.
This article was written by Justin Low at investinglive.com.