As most recent data points to stubborn #inflation and a still robust economy, the #federalreserve may need to push rates beyond the widely expected 5-5.25%. Using the “Taylor Rule”, a standard for determining restrictive levels that can tame inflation, as a gauge, fed funds could reach 6-7%. The implications for #assetallocation are significant.

#bonds will suffer, with a 10-year note losing 10-15% of its value. Long duration stocks like technology companies, as well as alternative assets like Private Equity, would be revalued downward. The #usdollar would rise as the rate differential with other major currencies would increase. The #euro would retest recent lows as the #ecb can’t follow the Fed due to the fiscal weaknesses of some members. #emergingmarkets , #gold and #commodities would all decline as a stronger dollar undermines the case for virtually every asset except #cash .

The counter argument is that much higher rates would wreak havoc not only on asset prices but also on heavily indebted companies, households andthe government; the largest debtor of them all. Nonetheless, the Fed has shown considerable skill in managing liquidity to ensure that the system does not come under too much pressure. Since November 2021, fed fund rates have risen from 0% to 4.6%, while total USD liquidity has only decreased 18% and remained stable since last September hence ensuring the credit system is adequately supplied (see chart).

There is no doubt that a heavily indebted system will eventually come under pressure and break, forcing the Fed to implement the long-awaited “pivot.” Yet investors should be cognizant of the potential harm that “higher for longer” may cause to their portfolios. A radical revision of portfolio allocation strategy is in order.

Disclosure: Not investment advice. Do your own research. Hold all assets mentioned. Twitter @pietroventani for more timely comments and updates

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