The Federal Reserve needs to cut rates immediately, says White House advisor Larry Kudlow.
He has a point, according to James Bianco, president of Bianco Research.
Ever since the 10-year/3-month spread inverted late last month, the bond market has been flashing a neon sign at the Fed to act, Bianco told CNBC’s “Trading Nation” on Friday.
“It’s a signal that the Fed should consider cutting rates. It’s a signal that they’re too tight with policy,” he said.
The situation might grow more troubling by the end of the second quarter because the rest of the yield curve will likely invert within those three months, he said.
“For the last 10 years, all the yield curves have been flattening and moving one after another into inversion. I don’t think that trend is going to stop, so let’s fast forward 60 or 90 days, they’re all inverted now,” said Bianco.
The most closely watched spread between the 10-year and 2-year Treasury notes was just 13 basis points from inverting on Friday. It last went negative in early 2007, months before the beginning of the financial crisis.
“It’s a sign that the Fed is too tight. If they’re not careful, they could do what the Fed has always done and cause a recession,” said Bianco.
Further inversions along the yield curve would likely spook the stock market because fears of a recession would spike, he said. An inverted yield curve means shorter rates yield more than longer ones, suggesting bond investors have less confidence in the longer-term outlook for the economy.
Bianco does not expect the Fed to heed the warnings of the bond market, though.
“I think they’re going to wait. I don’t think they should wait,” said Bianco. “They will not cut rates until it’s too late because they don’t want to give that ‘what does the Fed know?’ idea in the marketplace. They want everybody to see it first.”
Bianco says the Fed would need to see a stock market upset or further signs of economic deterioration before it acts. Policymakers need not wait, though; he says the proof is already there because aside from the curve inversion, earnings are expected to slow and economic data has weakened domestically and abroad.
“The Fed is not going to look at that. They’re going to wait longer, and that’s where we’re at risk,” he said.
An immediate rate cut would have almost-instant benefits, he added, including steepening the yield curve and putting a bottom on the 10-year Treasury yield. The 10-year yield hit 2.34 percent last week, its lowest level since December 2017.