Fed Rates Rise, Old Rejections Get a Second Look: Olive's Post-Hike Playbook

Derek Macpherson (0:00)

Welcome back to the Compass. We're recording today's episode on Thursday, September 17th. It's just after 11 a.m. Eastern.

So we're a day post the rate hike from Kevin Warsh. I got a little bit of ag in my face because I didn't think it was going to happen, but clearly I've wronged occasionally, as my wife points out. My name is Derek MacPherson. I'm the executive chairman of Olive Resource Capital. With me as always is Sam Pelaez, present CEO and CIO of Olive.

Samuel Pelaez (0:30)

I am surprised by the rate hike.

In particular, by the fact that it was a unanimous decision.

Obviously, there is inflation expectations. There is arguments and reasoning to justify the decision. I just expected there would be much more descent. I expected that perhaps would be very divided or that the market would be surprised by no rate hike at all. But thank God, I'm not a gambling person. I wasn't betting on this outcome. But yes, it's surprising.

Derek Macpherson (1:08)

I think a couple of things with the rate hike.

We're all armchair economists, but that's probably why we don't get to make the real decisions. But if I look at like, we were talking about this before we came on, what's driving inflation, right? You have a supply shock in oil. There's no amount of rate hike. Unless you physically break the economy and affect the demand side, there isn't really an amount of rate hikes that is going to allow, is really going to bring the price of oil down. And really, it's not the price of oil. It's the price of diesel and its refined products. And there's a nuanced aspect to that. Second, is the kind of the lag on effect from tariffs that has occurred, again, not something that the Fed can control with an interest rate. It's not the right transmission policy to affect that. That's something that's on the other, you know, the government has to do. And so, you get those two. And then, I mean, the third, you can make an argument, maybe it's the build out of data centers. And so, okay, you could affect, the Fed can affect that one with, those are groups that are accessing financial markets to fund. And if you make that money a little bit more expensive, that it slows down the build out of data centers. And then that, you know, can negatively affect inflation. None of that I'm convinced on, but I guess, but, you know, I make a little less than Kevin Warsh does as Fed Chair. Actually, I don't think he gets paid that well.

But the, you know, I'm not Fed Chair, so I don't get to make those decisions. And you're right, it was unanimous, right? And because of where the transmission mechanisms are coming from, I don't know. I didn't think it was going to be a rate hike. I was wrong. The market was right, though, and I think that's the other point, right? It was entirely priced in. Basically, from Jackson Hole, it was entirely priced in.

Samuel Pelaez (2:56)

100 percent. That moves in the market, obviously, past the initial website, that's usual when the news is released, was very tamed. The DXY was up a couple of basis points, the DXY being the US dollar index. The price action in gold was, I would only describe as muted.

So yes, all the conditions that are associated with an event being already priced in, entirely priced in by the market.

Derek Macpherson (3:25)

Whatever gold lost yesterday, it recovered today. So it's thought it's a non event.

Samuel Pelaez (3:29)

I think we're stronger rebound today than any loss we had yesterday. But just to complete the thought, I think when we think about the fact that it was priced in, there's this thought process in the fixed income world in the US that says that the US two-year bond index yield predicts where the Fed hikes are going to go. That index is right now sitting at 4.7 percent. The yield on two-year government bonds, that's the Gondak indicator, they call it many ways. Based on that, there's at least three more rate hikes in the horizon.

I don't know if those are priced in, probably not. But I think this is justification to the point that it's not a surprising rate hike from that perspective. There's plenty of arguments to support the decision to hike rates. Maybe that's ultimately what the Fed was going for is maintain credibility. All the elements are there to go ahead with a rate hike. The 25 basis coins is not going to break the economy, at least not more than the reality of diesel prices at $6 a gallon in parts of the US.