By Sam Boughedda
MKM Partners' Chief Economist & Market Strategist, Michael Darda, in a note Tuesday said that we are much closer to pricing in a realistic tightening path now than we were a few weeks or months ago.
Focusing on the decline of the S&P 500, Darda told investors that this sell-off has been associated with a sharp rise in Treasury yields, but during the last cycle, major equity market sell-offs were associated with falling, not rising, Treasury yields.
"We need to look no further than the expected Fed tightening path to see what is going on: the 12-month forward implied yield on Fed futures has soared to 4% from 76 bps at the end of last year, well above the 290 bps peak of the last cycle," said the analyst. "While bond market inflation expectations eased from YTD highs, they have not crashed and are still holding above the averages of the last cycle. Thus, in real terms (relative to five-year expected inflation), the expected Fed funds rate 12 months from today is now about 100 bps in real terms (relative to five-year expected inflation), matching the peak of the last cycle."
He added that we are much closer to pricing in a realistic tightening path now than we were a few weeks or months ago, which "means the collapse in equity valuations may be (mostly) behind us now."