Mathew C Kline wrote this piece for Bloomberg View:
The pattern of optimism giving way to dull reality is a familiar one for observers of U.S. markets. Just check out this great chart from analysts at Bank of America Merrill Lynch, courtesy of Saxo Bank A/S chief economist Steen Jakobsen.
Each colored line shows the expected path of short-term interest rates — a decent proxy for the state of the economy — while the black line along the bottom shows what has actually happened. For the past five years, traders have consistently (and wrongly) bet that growth is about to accelerate and interest rates will rise. In other words, irrational exuberance lives. If interest rates and stocks finally do go up, it probably won’t be until everyone has stopped expecting it.
So what have traders done? They appear to be ‘adapting’, becoming less optimistic as time goes by. For example, in 2010 they expected that by the next year, 2011, the FF rate would be just as high, or higher, than what in 2014 they only expect will happen in 2017!
Maybe sooner rather than later expectations will adapt to the point that there will no longer be any future rising line, with only the black ‘horizontal’ line remaining and extending into ‘infinity’. When that happens the ‘construction’ of the “Great Stagnation” will be complete and expectations will finally become rational!