The Fed's Calculated Delay: Navigating a Hawkish Stance Amidst Economic Crosscurrents

The Federal Reserve remains steadfast in its decision to delay interest rate cuts, embracing a "late" approach despite mixed economic signals and growing calls for easing. This intentional hawkishness, driven by a desire to definitively conquer inflation and perhaps navigate political timelines, creates a complex and uncertain landscape for investors, with significant implications for Treasury markets, global capital flows, and overall portfolio strategy.

Key Insights

1. The Fed's Deliberate Delay: A Hawkish Stance Despite Softening Data

Attribution: Joseph Wang, Felix

Joseph Wang: "Now remember, he [Powell] cut 50 basis points right before the election last year thinking that there was a recession, wanting to get ahead of it. But now he's committing to being late. So what that tells me is that he's really not going to do anything until we see the unemployment rate tick up."

The recent FOMC meeting underscored the Federal Reserve's commitment to a cautious, if not outright hawkish, stance. Despite downward revisions to their 2025 GDP forecast (from 1.7% to 1.4%) and an uptick in projected unemployment (to 4.5%), alongside a PCE inflation forecast increase (from 2.7% to 3.0%), the dot plot still indicated a median expectation of two rate cuts this year. However, Felix highlighted a crucial shift: the number of FOMC members projecting no cuts in 2024 increased from four to seven. This signals a growing internal reluctance to ease policy prematurely.

Joseph Wang emphasized that Fed Chair Powell is now explicitly "committing to being late" on rate cuts, a departure from previous pre-emptive actions. This strategy implies the Fed will wait for more definitive signs of economic weakening, particularly a higher unemployment rate, before acting. This patience, as Felix pointed out, means that by simply holding rates steady while inflation potentially moderates and unemployment rises, the Fed's policy stance becomes effectively more restrictive. The Fed seems to be prioritizing the inflation fight, even if it means tolerating some economic cooling, and is finding reasons to maintain this hawkishness, shifting from data-dependency to forecast-dependency when convenient.

Actionable Takeaway: Investors should anticipate a higher-for-longer interest rate environment. The bar for rate cuts appears significantly elevated, requiring more substantial evidence of labor market deterioration or a sharper-than-expected fall in inflation. This environment favors strategies that can withstand or benefit from sustained higher rates and potential market volatility.

2. Treasury Market Pressures: SLR Loosening as a Potential Buffer

Attribution: Joseph Wang, Quinn Thompson, Felix

Joseph Wang: "And now, as you know, the treasury market continues to grow because we continue to issue a lot of debt. It's becoming more of a highlight for, for the regulators, they don't want the market to break. And they're also thinking that maybe if we were to decrease the cost of banks in holding these Treasuries, maybe they would buy more, maybe that would put downward pressure on interest rates."

The discussion highlighted upcoming regulatory considerations, specifically a potential loosening of the Supplementary Leverage Ratio (SLR) for banks. Joseph Wang explained that the SLR, a backstop capital requirement implemented post-2008, imposes costs on banks for holding even safe assets like Treasuries. With the Treasury market expanding due to significant debt issuance, regulators are exploring SLR adjustments to prevent market dysfunction and potentially encourage bank purchases of Treasuries. This could involve exempting Treasuries or reserves from the calculation or adjusting the ratio itself.

However, the panel debated the immediate impact. Felix noted that banks might not be currently constrained by SLR but rather by risk-weighted capital ratios. Quinn Thompson cautioned against drawing direct parallels to the SLR exemption during COVID, as the current macroeconomic backdrop (higher inflation, less dovish Fed guidance) and potential "PTSD" among banks from the 2023 banking crisis might limit their appetite for duration, even with SLR relief. The looming Treasury General Account (TGA) rebuild, following the resolution of the debt ceiling, adds another layer of complexity, as a significant amount of bill issuance will need to be absorbed by the market.

Actionable Takeaway: While SLR adjustments could provide some relief to the Treasury market, they may not be a panacea for rising yields, especially for long-duration bonds. Investors should monitor the TGA refill dynamics closely, as the scale of issuance could still pressure yields upwards. Quinn Thompson suggested that long-duration bond yields could rise significantly (potentially over 100 basis points on the 30-year) once the TGA refill begins in earnest.

3. The Specter of Fiscal Dominance and a Post-Powell Fed

Attribution: Joseph Wang, Quinn Thompson, Felix

Joseph Wang: "I think that whoever President Trump appoints, it's going to be someone who's pretty dovish... If you were to really cut rates a lot, I think what I would be looking at is the dollar because I think that could severely depreciate the dollar."

The conversation touched upon the increasing influence of fiscal policy on monetary matters, a concept bordering on fiscal dominance. Felix raised the proposal by Senator Ted Cruz to remove Interest on Reserve Balances (IORB), which Joseph Wang explained would be highly disruptive if implemented abruptly, potentially causing short-term rates to plummet and rendering the federal funds market obsolete. While a sudden removal is unlikely, the discussion itself signals a greater willingness from the fiscal side to influence monetary tools for broader economic or deficit-management goals.

Looking ahead to 2026, the potential replacement of Fed Chair Powell introduces another significant variable. The panel anticipates that a new appointee, particularly under a Trump administration, would likely be far more dovish. Joseph Wang speculated that such a Fed might aggressively cut rates, with the primary casualty being the U.S. dollar. While this could lower short-term borrowing costs for the government, especially if issuance is heavily weighted towards bills, Quinn Thompson noted it could lead to a dramatic steepening of the yield curve and might not significantly lower overall interest expenses given the current average maturity of U.S. debt.

Actionable Takeaway: Investors should begin to factor in the potential for a significantly more dovish Fed post-2026. This scenario could lead to dollar weakness, higher inflation, and a volatile environment for long-duration bonds. Assets like gold and potentially other currencies could benefit. The increasing interplay between fiscal and monetary policy suggests a less independent Fed, making policy outcomes more politically sensitive.

4. Shifting Global Tides: US Exceptionalism Under Scrutiny

Attribution: Joseph Wang, Quinn Thompson

Quinn Thompson: "...the US Dollar is so at risk in all of this is because of the extreme... concentration of US asset holdings by foreigners. And what I was saying earlier is this blow off top and US dominance and exceptionalism earlier this year that culminated in the largest concentrations and asset flows into US dollar, US dollar assets in decades."

The theme of "US exceptionalism" is facing challenges. Joseph Wang observed a period post-"Liberation Day" (a term likely referring to a market event or data release) where US assets underperformed, and foreign capital showed signs of repatriating. While recent geopolitical events in the Middle East have provided some temporary support for US assets and the dollar, Wang believes the dollar's safe-haven bid is not as strong as it once was. He views the "EM-ification of the US" – a structural move away from US dominance – as a multi-stage process.

Quinn Thompson highlighted the record foreign exposure to US dollar assets, making the dollar vulnerable if this concentration unwinds. He noted that while many analysts are short the dollar, a positioning rinse could occur before a more sustained decline. Factors like tariffs, immigration policy, and potential capital controls (e.g., taxes on remittances or foreign withholding taxes) could accelerate this shift. A depreciating dollar, while potentially boosting US manufacturing, would be inflationary due to the US's large trade imbalance.

Actionable Takeaway: The long-term outlook for the US dollar appears challenged. Investors should consider diversifying away from an over-concentration in US assets. While timing is difficult, the structural forces—including fiscal pressures, trade policies, and a potential shift in Fed leadership—point towards a weaker dollar over time. This could benefit international equities, commodities, and alternative stores of value.

5. Portfolio Navigation in an Era of "Landmines"

Attribution: Quinn Thompson, Joseph Wang, Felix

Quinn Thompson: "Yeah, I hate the risk reward for almost every asset and I think like the most money to be made over the next 12 months is probably on the short side of most assets. And I guess, you know, if you're in cash, you're long the dollar and even that is probably not that safe."

The panelists painted a challenging picture for asset allocation. Felix described the current environment as one where "almost every asset class has some sort of landmine associated with it." US equities face headwinds from potential capital outflows, bond yields are biased higher, and even rest-of-world equities carry significant geopolitical and regulatory risks.

Quinn Thompson expressed a bearish view, suggesting the best opportunities might lie on the short side of most assets over the next 12 months. He sees few safe havens, even questioning cash (long dollar) due to long-term depreciation risks. He suggested inflation-protected securities (TIPS) and, eventually, the two-year note once the Fed pivots to aggressive easing. Joseph Wang shared a cautious approach, revealing his firm's model portfolio currently holds only cash and gold, anticipating better buying opportunities in the coming months as risks materialize and the currency potentially declines. Bitcoin was mentioned as a possibility but with the caveat that it remains correlated to risk-off sentiment and liquidity conditions, making its timing crucial.

Actionable Takeaway: Extreme caution and a focus on capital preservation are warranted. Traditional diversification may be less effective. Investors might consider holding higher cash balances, gold, and potentially inflation-protected instruments. For those with the risk tolerance and expertise, selective short positions could be considered. The consensus is that navigating the next 12-24 months will require active management and a keen awareness of macroeconomic shifts and Fed policy.

Notable Quotes

Joseph Wang: "He [Powell] just wants to be hawkish. Yeah, that's. He's finding reasons to be hawkish." This quote succinctly captures the panel's sentiment that the Fed's current stance is a deliberate choice, potentially looking past immediate data points to justify maintaining higher rates.

Quinn Thompson: "I, I'm of the belief that we do break out of the 5% [on the 30-year Treasury yield]. I think it's like a big three year, you know, sending triangle wedge type thing. And I think we might have skirted that move because of the delays in the bill because really the catalyst is when the refill starts... it in my opinion could be upwards of 100 basis points to like over 6% later this year." This offers a specific and bold prediction on the direction of long-term interest rates, tied to concrete fiscal events like the TGA refill.

Felix: "...by just staying flat, it's still restricting, creating an even more restrictive monetary policy stance. Even though their intention is just to not do anything that goes either hawkish or dovish, but by doing nothing, they're actually being hawkish." This highlights the nuanced reality that inaction by the Fed, in a dynamic economy with falling inflation, equates to a tightening of financial conditions.

Market Implications

The discussion paints a challenging near-to-medium term outlook for most traditional asset classes. The Fed's commitment to being "late" on rate cuts, coupled with ongoing fiscal pressures and the eventual TGA rebuild, suggests upward pressure on Treasury yields, particularly at the long end. Quinn Thompson's forecast of the 30-year yield potentially exceeding 6% later this year is a significant risk for bond portfolios and could spill over into equity market volatility.

The potential for a weaker U.S. dollar emerges as a strong theme, driven by several factors: a future dovish Fed, the unwinding of "US exceptionalism" trades, and deliberate policy choices aimed at rebalancing the economy. This has profound implications for international investments and commodity prices. Gold is repeatedly mentioned as a key defensive asset and a beneficiary of these trends.

For equity investors, the environment is fraught with "landmines." While the US market has shown resilience, the prospect of capital outflows and a more challenging macroeconomic backdrop warrants caution. Short strategies were suggested by Quinn Thompson and Joseph Wang as potentially profitable in the coming months.

Ultimately, the insights suggest a period of heightened uncertainty where capital preservation, tactical positioning, and a focus on assets that can withstand or benefit from inflation and currency debasement (like gold and potentially TIPS) will be paramount. The "easy money" era appears to be firmly in the rearview mirror, demanding a more discerning and risk-aware approach from investors.