U.S. Bond Yields Scream Risk; Equities Yawn; Warsh
Talks Tough at Jackson Hole
By the Curmudgeon with Victor
Sperandeo
Economic Week in
Review:
To no
surprise for Curmudgeon/Sperandeo blog post readers, the U.S. economy continues to slow down. Its being held up and stimulated by the
unprecedented wave of AI spending- especially for AI data center buildouts and
Nvidia GPUs. Here are the important
economic numbers released last week:
New Home Sales
fell -10.5% in July which marks the lowest level of in
over a year, driven primarily by stubbornly high mortgage rates and elevated
home prices that continue to price out prospective buyers. As a result, builder confidence has plummeted
alongside dwindling foot traffic, signaling a prolonged stagnation in the
residential real estate sector. For sure, the housing market remains in a deep
decline.
The Personal
Consumption Expenditures (PCE) Price Index, the Feds preferred inflation gauge, showed sticky inflation as the
year-over-year rate held steady at 3.7%. The Core
rate, which excludes the volatile food and energy components, was unchanged at
3.3%. -->This is an
important warning to the Fed as inflation remains well above their 2% target
and is not making sustained downward progress.
Consumer Confidence
dropped slightly from 90.2 to 89.4 as consumers outlook for business and labor
market conditions deteriorated. It was the second consecutive month of declining consumer confidence and a seven-month low.
Sources:
Conference Board, National Bureau of Economic Research (NBER)
Consumer Sentiment,
which focuses on views of personal finances, dropped from 55.2 to 51.7 in its
final reading for August as expectations for the future and assessments of
current conditions both fell on concerns regarding cost of living.
The U.S. Bureau of
Economic Analysis (BEA) released its
second estimate of GDP, showing
that the U.S. economy grew at an unchanged annual rate of 1.5% in the second
quarter of 2026. That was less than the
2.1% growth in the 1st quarter of the year.
The Chicago PMI for August plunged to
47.1, down sharply from 57.6 in the previous month. This
massive 10.5-point drop completely missed the market consensus forecast
of 57.9. A reading below 50 signals
a sudden shift from expansion
to contraction in
Midwest manufacturing activity, raising immediate concerns over a localized
manufacturing chill.
S&P Global U.S. Flash PMI Recaps,
published on August 28th, highlighted a major divergence between
industrial and service sectors in August:
-Manufacturing
PMI: Eased to 53.2 (down from 53.9), hitting a five-month low.
-Growth was heavily
restricted by higher fuel costs, raw material shortages, and
supply chain
delays.
-Services
PMI: Surged to 56.8 (up from 54.6), reaching its highest level
since late
2024.
-Composite Output
Index: Rose to 56.0 (up from 54.5), pushing overall U.S.
business growth to
a 52-month high on the back of the robust services sector.
Over 700 taxes were raised by tariffs from CANADA in Trumps
Trade war with that nation.
.
Victor
on Jackson Hole 2026 - A Hawkish Keynote:
Friday's Jackson Hole, WY keynote gave Fed Chairman Kevin Warsh a natural opening to frame the macro
picture as a genuine balance of risks. Instead, he spoke almost exclusively in
terms of further Fed rate hikes, treating inflation as the singular governing
concern.
The market's verdict was swift: virtually every asset class, save the dollar, traded
lower. Why? The data is, at best, mixed, and nothing approaching certainty
suggests the CPI has stopped falling the very premise of his
hawkishness is clearly unproven.
The damage was sharpest in precious metals and government
debt, both acutely sensitive to the real-rate and policy-path implications of a tightening bias. Equities, by contrast, shrug off a modest
drift higher in rates; with profits and margins at historically elevated
levels, the earnings backdrop keeps underwriting risk appetite.
Which brings us to the strategic question at the heart of
this new Fed chairs regime. If Warsh was selected by Trump to lower rates
executing his own stated plan of shrinking the Fed's balance sheet as the
mechanism his failure to so much as address that balance sheet reduction
program reads as a significant miss.
We have to assume that whatever the
reason Trump chose Warsh to replace Powell as Fed Chair was poor judgement from
Trumps point of view. From the
administration's standpoint, that looks less like a coherent easing strategy
and more like a self-inflicted tightening of financial conditions. Not a
good move with the U.S. economy slowing rapidly.
Rising
Treasury Yields Reflect Real Economic Concerns:
This weeks Barrons
lead story [paywall] is that Bond Yields Are the Markets New Fear Gauge.
We add that Equities Aren't
Listening. We discuss why below.
Indeed,
U.S. Treasury yields have usurped the role of Wall Street's primary "fear
gauge," displacing the traditional risk metrics that investors once leaned
on like the VIX volatility index. As a thickening web of fiscal, monetary, and
geopolitical pressures converges in the final months of the year, the rates
complex is now doing the heavy lifting that equity volatility once did.
This is a structural shift in how rates are read, not a
passing quirk. For years, the Treasury market served chiefly as a barometer of
growth and inflation expectations. Today, it has become a referendum on a far broader set of concerns: fiscal
largesse, the capital intensity of the artificial-intelligence buildout, the
trajectory of global oil prices, and the mounting uncertainties of an election
cycle.
The bond market is pricing risks that the equity tape has, so
far, chosen to ignore. Foremost among them is the trajectory of U.S. government debt, which crossed the $40
trillion threshold for the first time in August with $50 trillion now in
sight by decade's end. The near-term picture is scarcely more reassuring: this
year's deficit is on pace to breach $2 trillion, and
next year's tally is projected to widen to $2.1 trillion.
The macro backdrop is deteriorating on the demand side as
well. Retail sales posted their steepest monthly decline in over a year in
July, in part as the tailwind from spring tax refunds faded. Consumer
confidence and sentiment have rolled over. The labor market has stalled, with
the Bureau of Labor Statistics (BLS)
reporting a net loss of more than 23,000 jobs in July, while revisions to the
prior two months stripped another 103,000 positions from the year-to-date
tally.
The bond market is sending a rational message, says Neil Shearing, group chief economist at
Capital Economics. The world is riskier, government debt burdens are higher,
inflation risks are less predictable, and the political willingness to address
fiscal problems is limited.
Some of the recent rise in yields may unwind, Shearing
says. But the old world is gone, and these underlying forces mean upward
pressure on term premia is likely to
be a lasting feature of the post-pandemic age.
.
The 10-year yield has increased by about half a percentage
point (50 bps) in the past six months, and the 30-year yield hit a 19-year high
in mid-August. On Friday August 28th,
the 10-Year Treasury yield closed at 4.73% (see chart below), while the 30-Year
was at 5.213%.
.
Seema
Shah, chief global strategist at Principal Asset Management, says rising bond yields in the wake of
softening jobs and retail and housing data suggest investors are moving from an
inflation story, controlled in part by the Fed, to a term-premium story,
implying risks that are beyond the central banks control. This distinction is important, she says,
and the implications for stocks are acute.
Higher bond yields reduce the present value of future
earnings and place downward pressure on valuations, particularly in
long-duration growth sectors. They may also threaten one of the markets key
supports: the wave of AI-related capital expenditure, Shah added.
U.S.
Equities Shrug Off Risk:
Somewhat surprising to old timers like the Curmudgeon and
Victor, the equity market has refused to cooperate with the declining economic
data a striking departure from historical precedent. The S&P 500 is less
than 2% below its all-time high, a record 7,798.99 set on August 13, 2026.
The explanation is straightforward: the marginal equity bid
remains strongly anchored to the AI
investment (capex) trade, semiconductors, and energy sectors largely
insulated from a softening consumer and a cooling jobs market, particularly as
AI-driven automation continues to displace labor.
The AI trade deserves a harder look. Beneath public and
private AI equities, theres a circularity that should unsettle any disciplined
observer. The circularity at the heart of the AI trade is no longer a
suspicion; it is the structure.
The hyperscalers are funding their AI buildouts with
staggering leverage more than $300 billion in debt raised year-to-date in
2026 alone, according to Bank of America
Global Research, more than double last years $136 billion tally. Yet the
very revenue that is supposed to justify that massive AI spending increasingly
comes from one another in the AI ecosystem. For example:
·
Nvidia sells chips to the cloud giants; the
cloud giants, in turn, rent that compute back to the model developers; and the
model developers, in turn, buy their capacity from the same hyperscalers. It is
a closed loop, and a closed loop is not a business model.
·
Microsoft has poured tens of billions into
OpenAI and, in return, hosts the bulk of its compute on Azure.
·
Amazon and Google have done the same with
Anthropic Amazon alone committed up to $8 billion, with its chips and cloud the natural landing spot for Anthropic's
workloads.
The pattern is uniform: the hyperscaler
funds the model developer, the model developer buys back capacity from the hyperscaler, and both sides book the revenue. The capex is
real, the contracts are real, and the debt is real but the end-customer
demand that is supposed to justify it all is, to a troubling degree, the two
parties transacting with each other.
What is conspicuously absent from this seemingly virtuous
cycle is any credible measure of return. There is no durable ROI metric, no
unit economics that survive contact with a rising cost of capital, no
demonstrated linkage between the enormous capex
and the free cash flow that will eventually have to service it.
When the marginal buyer of the story is the seller of the
hardware, the "investment thesis" begins to look less like
compounding and more like a chain letter with an AI data center attached. Rates
are already telling us the cost of this experiment. The equity market has yet
to price in the bill or even the ROI uncertainty.
The AI circularity trade is not a market; it is a mirror.
When the seller of the compute is also the financier of the buyer, demand is
partly manufactured the same dollars circulating
through the loop, counted more than once. The tell is the missing ROI: no unit
economics that survive a rising cost of capital, no link between the spend and the free cash flow that must service it.
Conclusions:
The divergence
is the story. Soaring Treasury interest rates are screaming caution. They are repricing in risk. The equity market has yet to grasp that in a
closed loop (i.e. AI spend cycle), the end customer right now is the AI loop
itself. They seem oblivious to that and
other risks like persistently high energy prices due to the never-ending
U.S.-Iran war.
History suggests one of those markets will be wrong and in a
very big way.
End
Quote --This quote explains why the U.S is in decline:
If virtue and knowledge are diffused among the people, they
will never be enslaved.
(Victor: Congress has little knowledge and no virtue)
Samuel Adams (17221803) was an American statesman, political
philosopher, and Founding Father who led colonial opposition to British rule
and helped ignite the American Revolution.
..
Stay
calm, be healthy. Wishing you success and good luck. Till next time
.
The Curmudgeon
ajwdct@gmail.com
Follow the Curmudgeon on Twitter @ajwdct247
Curmudgeon is a retired investment professional. He has been involved in financial markets since 1968 (yes, he cut his teeth on the 1968-1974 bear market), became an SEC Registered Investment Advisor in 1995, and received the Chartered Financial Analyst designation from AIMR (now CFA Institute) in 1996. He managed hedged equity and alternative (non-correlated) investment accounts for clients from 1992-2005.
Victor Sperandeo is a historian, economist and financial innovator who has re-invented himself and the companies he's owned (since 1971) to profit in the ever-changing and arcane world of markets, economies, and government policies. Victor started his Wall Street career in 1966 and began trading for a living in 1968. As President and CEO of Alpha Financial Technologies LLC, Sperandeo oversees the firm's research and development platform, which is used to create innovative solutions for different futures markets, risk parameters and other factors.
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