Difference between Market Interest Rates and Fed Funds Rate…

We asked Microsoft Co-Pilot another question on interest rates. Which interest rate affects the market more, the Fed Funds rate or the ten year market rate. After a lot of discussion here, the summary at the end is probably most important.

Co-Pilot said:

Both the Federal Funds Rate and the 10-year Treasury yield significantly impact the economy, but they do so in different ways.

Federal Funds Rate:

• This is the interest rate at which banks lend to each other overnight. It is set by the Federal Reserve and directly influences short-term interest rates.
• Changes in the Federal Funds Rate can affect borrowing costs for consumers and businesses, impacting everything from credit card rates to business loans¹.
• It is a primary tool for the Federal Reserve to control inflation and manage economic growth².

10-Year Treasury Yield:

• This is the return on investment for U.S. government bonds with a 10-year maturity. It is determined by the market and reflects investor sentiment about future economic conditions.
• The 10-year yield influences long-term interest rates, including mortgage rates and corporate bonds³.
• It is often seen as a benchmark for long-term interest rates and can indicate investor confidence in the economy³.

In summary, the Federal Funds Rate has a more immediate and direct impact on short-term borrowing costs and monetary policy, while the 10-year Treasury yield influences long-term interest rates and reflects broader economic expectations²³. Both are crucial, but their effects are felt in different areas of the economy.

Our take on this…

Market rates are at a big discount to Fed Funds rate at the moment. That means consumer credit card debt is carrying the brunt of higher rates, while the 30 year bond market is feeling the softness in market interest rates.

For this to be put in perspective lets look at a couple of charts to see how the above explanation has worked in the past six months, i.e. that market rates have more effect on bonds than consumer stocks like GM.

First we have a chart of market rates vs the FF rates and we see they have declined since April.

Next we look at a chart of GM vs TLT (bond ETF chart) and see that in fact bonds vs GM have in fact been making a bottom since April although the recent rally and decline in GM vs bonds would point out the biggest dilemma that Powell has, the quick trigger speculative nature of the stock market as everyone tries to game the reaction of the economy to a FF rate decline. I think the volatility puts a note of caution on Powell’s playbook.

I do think the case could be made however, that bonds are a buy here, while not so much consumer stocks.

Market rates versus Fed Funds rates

Bond prices vs GM (consumer stock price)