Inflation Ultimately Drives The Fed

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During his recent interview on The Acquirers Podcast with Tobias, Tim Travis, founder and deep value investor at T&T Capital Management discussed Inflation Ultimately Drives The Fed. Here’s an excerpt from the interview:

Tobias: Yeah, I watch the 10 year pretty closely, because I think it’s a reasonable proxy for not the performance of value, but as the 10 year seems to creep up, value seems to do a little bit better, and vice versa. If the 10 year fades, value seems to do a little bit worse. I’ve watched it over the last year, it got crushed March 2020 and then, at the start of this year, it started rallying and that seemed to coincide with value doing better, and then over the last couple of months, we’ve seen it soften up a fair bit.

Tim: Yeah.

Tobias: I have no idea what drives it, but it is one of the things that I’ve watched reasonably closely. I think that there’s some cap, though, there’s some point at which that the Federal Reserve can’t let it float up too much, because it then impacts the borrowing of the federal government. Do you have any view on that?

Tim: Yeah, I would definitely agree, but that’s why inflation is the most significant thing for sure. The Fed can keep buying bonds. I was thinking, okay. I don’t know if you saw it this morning, but Kyle Bass brought up China and the likely aggressiveness that they’re going to show for Taiwan over the next few years. That’s a huge situation. That’s a major risk that’s out there. Let’s say China stops buying US Treasuries for some reason. Maybe they can do that, maybe they can’t. It doesn’t matter.

But the Fed can keep printing money and buying Treasuries, of course. But what if you have inflation? If you have inflation that just keeps picking up and inflation expectations pickup, well, then, those longer dated bonds are going to start yielding a lot more. The market’s going to move those. So, it’s inflation that will ultimately drive the Fed long term. That’s why by far and away, that’s the most important thing to watch.

Just like you said, the 10-year Treasury has been driving value and growth. Imagine what a 4% 10-year Treasury was normal a decade ago? Anything close to that level now, what happens to the multiples of some of these glamour stocks?

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