Stocks, Bonds Rally On 'Neutral Rate' Optimism — Bill Ackman Warns These Expectations Are Misplaced

Billionaire hedge fund manager and Pershing Square Capital PSHZF CEO Bill Ackman explained through a series of tweets that a 2% borrowing rate is not neutral when inflation is trending around 9%.

“The bond and stock market have rallied substantially since as the implication is that rates need not increase much more. The problem is that we are not close to a neutral rate. While 2.25 to 2.25% may be a neutral rate with 2% inflation, it is an extremely accommodative rate with inflation at 9%,” Ackman said.

The problem is that we are not close to a neutral rate. While 2.25 to 2.25% may be a neutral rate with 2% inflation, it is an extremely accommodative rate with inflation at 9%. One’s cost of borrowing is a function of the interest rate and

— Bill Ackman (@BillAckman) July 29, 2022

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Ackman’s Criticism: The hedge fund manager said he is “puzzled to understand how the Fed believes that we are already at neutral. It is counter to everything I understand about basic economics.”

He argued that U.S. Fed Chair Jerome Powell’s views on the neutral rate have only served to materially ease financial conditions making the inflation problem worse and his job more difficult. “Greater clarity would be helpful for all,” he said.

economics. A neutral rate of 2.25-2.5% only makes sense in a world with 2% stable inflation. It makes no sense in a world with 9%, 6% or even 4% inflation. Powell’s views on the neutral rate have only served to materially ease financial conditions making the inflation problem

— Bill Ackman (@BillAckman) July 29, 2022

Where Should Rates Be: Ackman explained inflation reduces the cost of borrowing as it is the "real" interest rate that matters. “The money in your savings account is decreasing by about 1% per month due to inflation, so you are incentivized to spend it and borrow more. While businesses and consumers don’t borrow at the 2.25-2.5% Fed Funds rate, they pay a spread. But even at today’s credit spreads, the real cost of money is still extremely cheap so everyone is incentivized to borrow and spend, fueling inflation,” he said.

Although Ackman thinks inflation will ease soon, he said there is no prospect of getting back to 2% without materially higher rates, 4% or more, maintained at these levels for extended periods.

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Photo courtesy Pershing Square Foundation