PITTSFIELD, Mass. — Bond market volatility has thrown investors for a loop as yields across the board have risen to multi-year highs.

Oil prices are also gaining, forcing global central banks into a higher-for-longer interest rate posture. Equity investors simply yawn.

Thirty-year Treasuries hit 5.44 percent--a 20-year high. The Ten-year registered 5.23 percent while shorter-term maturities all registered multi-year highs. Meanwhile, as diesel fuel broke $6.50/gallon, Brent crude was above $106/bbl, while U.S. WTI oil was trading above $94/bbl.

And yet despite the backup in yields, the stock market finished the week with gains. On Monday, the Nasdaq hit a record high and finished the week up more than 1.5 percent. There was "talk" on Tuesday that Americans and Iranians would reach an agreement while meeting at the UN General Assembly's 81^st session. Oil and gold prices fell; bond yields did as well.

And then came Wednesday. Let's start with the release of last month's Purchasing Managers' Index (PMI)—both the Manufacturing and Services PMI were much better than expected, revealing rising demand and costs. The results signaled a stronger economy ahead but with rising costs.

This was followed in the early afternoon by a failed $70 billion, five-year Treasury auction. Buyers went on strike. To attract interest, the rate promised on the bonds had to be raised. Yields on existing bonds exploded higher and ended the day at 5 percent. It was the worst auction since 2018. This was followed by another ugly auction of the seven-year on Thursday, which pushed yields even higher.

Is it any wonder that during a talk at a housing conference, Federal Reserve Governor Michael Barr was quoted as saying "more tightening will likely be needed." Several other Fed heads echoed those sentiments during the rest of the week. By Friday, the Ten-year benchmark government bond was 5.21 percent, with most bond vigilantes eyeing 5.30 percent in the days ahead.

As for that peace deal, hope springs eternal over in the stock market. I am still dumb founded that markets believe these White House peace-around-the-corner claims that bubble up every time the markets threaten to fall. The pullback in energy prices reversed by Wednesday.

The Iranians claim they want to return to the Memorandum of Understanding terms to negotiate some truce. That seems to be the extent of the three-hour meeting between Trump's son-in-law and the Iranian president. With the midterms around the corner, the administration appears desperate to at least hold the line on oil prices for the next few weeks. And oil is the key to the stock market.

The administration is working as hard as they can to keep stocks from falling before the election. They hope that people will vote with their pocketbook. In this case, with strong returns in their retirement accounts, more people will vote for the status quo than not.

In the case of a truce in the Middle East, it is up to whether Iran's real leaders, the cadre of hardline Revolutionary Guard bosses, are willing to play ball. Those bad guys were probably disappointed this week when the GOP-controlled Senate continued to rubber-stamp the president's war.

The Republicans narrowly defeated legislation which would have demanded an end to the war. Meanwhile, diesel prices continue to climb, hitting $6.52/gallon. Diesel is actually above $8.00 in California. Nationwide, diesel powers almost everything that moves or is made.

By the time the smoke cleared on Friday, prediction markets priced in the probability of another rate hike in October and December at more than 60 percent. That puts the Fed between a rock and a hard place. If they raise rates, it will increase interest rates on the short end of the curve.

That is where the U.S. Treasury auctions offer most of our government fixed-income instruments to finance our increasing debt load. A rise in rates will cost us more in interest payments, which is the amount the nation pays to borrow money. If they don't raise rates, then inflation continues to accelerate.

The tremors from the climb in U.S. bond yields have reverberated around the globe, pushing bonds higher this week in Japan, Australia, and New Zealand. Europe has followed suit, with German, French, Italian, and Greek fixed income yields moving higher and higher.

So, with yields breaking bad, why is the equity side of the equation holding up so well? The S&P 500 Index is less than 1.5 percent away from all-time highs. But looks can be deceiving. Remember that the large mega-cap stocks, the AI hyperscalers, represent almost 40 percent of most equity indexes. Higher bond yields would least impact these companies because of their strong cash flow and prospects.

Under the hood, almost 70 percent of the S&P 500 constituents are already at least 10% below their 52-week highs and in correction territory. That amounts to the most extreme breadth divergence in ten years. Rising yields hurt small businesses the most. The small cap Russell 2000 Index is where the carnage is occurring. That index is down more than 5 percent over the last month.  The bulls argue that there is no cause for alarm.

The PMI data shows a growing economy thanks to the multi-trillion-dollar expansion in investment capital fueled by AI. As such, rising interest rates are a natural function of a growing economy. All this investment is driving corporate earnings across the economy.

What does it matter if the borrowing rate moves up a percent or so when the payoff from AI investment in the years to come will be multiples of that cost? As long as AI continues to grow, the stock market will grow with it. So say the bulls.

PITTSFIELD, Mass. — The Fed raised the Fed Funds rate by one quarter percentage point on Wednesday. The markets interpreted the move as the first in what could be several more hikes in the months ahead. Will that solve our inflation problem?

The Fed can only control the short end of the yield curve. Raising the Fed Funds rate will accomplish little when the main drivers of added inflation are tariffs and the price of oil. As for the country's out-of-control spending, the debt and deficit are fiscal problems. Congress is responsible for government spending, and in this case, pressure from the White House. The President's recent promise to give every American $5,000 if the GOP wins both houses of Congress in the mid-terms would add more than another $1 trillions to the spending he has already demanded.

If the economy is growing and unemployment is low, the Fed has little effective work it can do to lower inflation. The only thing they can accomplish by raising rates is to slow demand for goods and services by curtailing credit. In which case, too many rate hikes could cause a slowdown in the economy.

What the Fed can do is work with the U.S. Treasury in accomplishing its goal—reducing the debt and deficit while maintaining growth. We know the longer end of the yield curve (10-20 and 30-year bonds) dictates economic growth. In these durations, companies and individuals borrow through mortgage rates, car loans, investments, etc.

The lower the interest rates on this kind of borrowing, the higher the economy's growth rate, the higher the tax revenue, and, theoretically, the more money there is to pay down the nation's debt. Anything the Treasury could do to lower those long-term yields would encourage higher economic growth. Especially today, when artificial intelligence promises to be as much of a productivity benefit to society as was the industrial revolution.

Both Warsh and Bessent believe the country would benefit if their two organizations worked more closely together, especially at a time when Paulson's 'doom loop' might be a real possibility. Investors are asking whether Chairman Warsh would be willing to support the Treasury in keeping long-term bond yields in check. And if so, how?

I would love to be a fly on the wall during those closed-door discussions between these two ex-hedge fund managers. The obvious answer would be for the Fed to buy more Treasury bonds, especially on the long end.

They have already increased their ownership of short-term maturities from $2,974 billion to $3,003 billion since December under the Fed's Reserve Management Purchases program. Of course, it's just a coincidence that the U.S. Treasury has raised $18.9 trillion in bond auctions this year, with a substantial portion of that in the same short-term categories.

The Fed insists this is not quantitative easing, but rather an open market operation in which the Fed injects reserves into the banking system through "permanent" asset purchases. Buying long-dated bonds would be a 'horse of a different color,' as the Wizard would say. Quantitative Easing (QT), as it is called, however, is usually implemented when the economy is declining and/or to prevent deflation—the opposite of the present situation in the U.S.

The astute reader will say that, under the present circumstances, the Fed's use of QT would be just a hop, skip, and a jump away from printing money and monetizing our debt. And wouldn't that be inflationary? Yes, unless it was considered an emergency done in combination with an effort to combat a 'doom loop' (a slowdown in the economy caused by a spike in long-term interest rates).

None of this is original. Indebted nations have used the same combination of monetary and fiscal policies repeatedly throughout history to reduce debt and avert bankruptcy. The lost decade of the Eighties in South America is an example of this kind of monetary policy maneuver, where a nation's currency fell, making its outstanding debt worth much less than it otherwise would have been. In the end, countries inflated away their debt load. It worked and returned their economies to some semblance of growth.

The difference is the U.S. is the largest economy on earth. We are not an emerging market, although we've certainly been acting like one in recent years. As long as the U.S dollar remains the world's reserve currency, we could probably get away with it. To do so, the global system requires a continuous supply of dollar liquidity and safe assets (Treasury securities). Recently, that has come under pressure through central banks' accumulation of gold, regional settlement arrangements, bilateral trade agreements outside the dollar system, and what seems to be a gradual reduction in the dollar's share of global reserves. In another column, I will address the Trump administration's recent actions to combat those dangerous trends.

I am not expecting a devaluation shock; that would jeopardize the U.S. reserve status. Instead, I believe we have already entered a period of fiscal dominance. It is a system in which our huge debt remains manageable through increasing dependence on accommodative monetary policy and structurally compressed real yields'

The Treasury's debt purchases are a case in point. Initially, Secretary Bessent announced a doubling of Treasury bond purchases to $4 billion per month. On September 9th, that amount was increased to $6 billion. It was still a drop in the bucket, given the size of the U.S. Treasury market, and yields moved higher still. The rumored use of almost $1 trillion in the Treasury's general account for bond purchases may be necessary to convince bond vigilantes that Bessent is serious.

Bessent's current support of the Japanese yen is another example of what we can expect going forward. In this case, when the Japanese yen weakens too much, as it has over the past few weeks, the Japanese government has historically sold some of its dollar holdings in U.S. Treasuries and used the proceeds to buy yen. Those sales would put added pressure on U.S. Treasury bond prices, which would force yields even higher.

To prevent this, Bessent has agreed to 'loan' dollars to Japan to buy its currency. He warned speculators that he was "the House' meaning he is controlling that market for the yen. Of course, this is a way to devalue the dollar. It was no accident that his statement goosed the price of gold, crypto, and other commodities.

I expect this kind of fiscal dominance to widen further. You can also expect increased cooperation and coordination between the Fed and the Treasury. As such, future quantitative easing, interest rate cuts, and more action to cap long bond yields are almost assured as conditions allow.