Rates Up, Oil Up, Inflation Up… So Is the Economy

The 10-year Treasury rate just rocketed past 4.5% to 4.68%, oil is stubborn above $100 a barrel, and wholesale inflation came in hotter than expected. Normally, this trifecta would spell a recession—yet second-quarter economic growth is tracking at an incredible 4% GDP. In this update, we break down the exact reason behind this massive economic surprise. We then dive into what the market's sudden flip from rate cuts to rate hikes under new Fed Chair Kevin Warsh means for your money, and why historical data shows that the typical "testing" of a new Fed chair has often opened up long-term opportunities for investors. Plus, we analyze the 25% surge in tech stocks, take on the mainstream narrative that foreigners are dumping U.S. Treasuries, and look at the latest private valuations of OpenAI and Anthropic ahead of their anticipated summer IPOs.

https://www.youtube.com/watch?v=2kg9VVKQBsE

Treasury yields broke through 4.5% — and that matters more than the headline suggests

We've been watching the 10-year Treasury yield closely for months because it determines mortgage rates, business borrowing costs, and serves as a key risk signal for the stock market. Throughout the past year, every time this rate approached 4.5%, it pulled back — most notably in April 2025, when a sharp move from 4% to 4.5% in just two days prompted the administration's 90-day tariff pause and triggered a 3,000-point market rally in 10 minutes.

That pattern just broke. As of mid-May, the 10-year yield has cracked through 4.5% and pushed up to 4.68%. The primary driver is sustained commodity inflation, particularly oil prices that remain above $100 per barrel.

The housing market is feeling it. A 30-year fixed mortgage now sits at 6.7%. Historically, when 30-year mortgage rates cross 6.5%, housing — a critical engine of the broader economy — enters a freeze. We want to see the 10-year drift back below 4.5% in the coming weeks.

Inflation is back above the Fed's comfort zone

Three inflation readings, all moving in the wrong direction:

• CPI (Consumer Price Index): 3.8% year-over-year

• PCE (the Fed's preferred measure): 3.5% year-over-year

• PPI (Producer Price Index — wholesale/business inflation): 6% year-over-year

The PPI number is the most striking. Wholesale inflation at 6% is a stunner. PPI can be volatile month-to-month, and we're hoping this is a one-month aberration rather than a trend — but if it doesn't settle back into the 3–4% range over the next several readings, that's a serious problem.

The Fed's stated 2% inflation target requires CPI to be at or near that level before rate cuts are on the table. We are well above it, and that's the core reason rate-cut expectations have evaporated entirely.

Why $100 oil isn't crashing the economy

The natural question: if oil is above $100 and inflation is rising, why isn't the economy in recession?

The answer is structural. The US economy is far less oil-intensive than it was in the 1970s. Back then, producing $1 million of GDP required nearly three barrels of oil. Today it requires roughly half a barrel. The economy has shifted from a goods-producing base to a services base, and that transition has dramatically reduced our energy intensity.

If today's $100 oil environment had occurred in 1975, the US would unambiguously be in recession. Instead, the Atlanta Fed's GDPNow tracker for Q2 currently estimates GDP growth at 4% — roughly double the 2% rate considered healthy in normal conditions. That's a remarkable result against the backdrop of $100 oil and rising rates, and it surprised most economists who expected significantly more economic damage by now.

New Fed chair, new playbook — from cuts to potential hikes

Kevin Warsh has taken over as Federal Reserve Chair. Just three months ago, the consensus expectation was that he would deliver rate cuts. That expectation has flipped completely.

Market-implied probabilities for where the federal funds rate sits at the end of 2026 — currently at a range of 3.50–3.75%:

• 39% chance rates remain at current levels by year-end

• 42% chance the Fed has hiked rates once

• 18% chance the Fed has hiked two or three times

We don't expect two or three hikes, and we may not see any. But the swing from "rate cuts coming" to "rate hikes possible" in three months illustrates how quickly the inflation picture has changed. How this plays out depends in significant part on how quickly the Middle East conflict resolves — the longer oil stays above $100, the higher the odds the Fed has to act.

A historical pattern: new Fed chairs and market volatility

There's an old market saying: markets like to test a new Fed chair. Looking at the last five Fed chairs, each saw a meaningful selloff in their first six months:

• Paul Volcker (1979): -10%

• Alan Greenspan (1987): -33% (including Black Monday, -21% in a single day)

• Ben Bernanke (2006): -7.7%

• Janet Yellen (2014): -4%

• Jerome Powell (2018): -7.3%

What's encouraging is the longer view. In four of five cases, markets were higher one year later — often significantly. And by the end of each chair's term, returns were strong across the board. The lesson: extra volatility in the next several months wouldn't be a surprise, but historical precedent suggests it's not a reason to step away from equities.

Tech leads the rebound: asset class returns since late March

From March 30 through May 21, the asset class performance picture has flipped from the prevailing narrative just a few months ago:

• NASDAQ (QQQ): +25%

• S&P 500: +16%

• International stocks: +11%

• Emerging markets: +16%

• Dow Jones: +9.6%

• S&P 500 (equal-weighted): +7.4%

• Gold: -0.5%

A few months ago, the consensus on CNBC and Fox Business was that technology was beginning a multi-year period of underperformance. We took the other side of that view — tech was trading at some of the cheapest valuations in a decade and remains a meaningful weight in our client portfolios. The return spread between QQQ and the equal-weighted S&P is more than 17 percentage points in less than two months. When the entire investing community is positioned on one side of a trade, the opposite side often becomes the right place to be.

Rapid fire: foreign demand, midterm patterns, and AI valuations

Foreign Treasury holdings are at an all-time high. Despite a year of headlines suggesting foreigners are dumping US Treasuries, the data shows the opposite. International holdings of US Treasury bonds sit at $9.24 trillion as of late March 2026 — a fresh record. The headlines have been wrong on this one.

Midterm-year market patterns. Historically, midterm election years see the deepest mid-year drawdown of the four-year cycle (-17.5% on average), but the rebound a year later has been the strongest of any year in the cycle (+32% on average). Volatility in the back half of 2026 wouldn't be unusual; neither would a sharp recovery into 2027.

OpenAI and Anthropic valuations. Both companies are expected to IPO this summer along with SpaceX. Anthropic — the parent of the Claude AI assistant — is now valued at approximately $1 trillion in the private markets, surpassing OpenAI's valuation. The excitement around these companies is real, but valuations at this level warrant careful attention. We're watching the IPO setup closely and would not want to see valuations push significantly higher before public listing.

Key takeaways

• 10-year Treasury yield broke above 4.5% to 4.68%, pushing 30-year mortgages to 6.7% and putting pressure on housing

• Inflation is back above target: CPI at 3.8%, PCE at 3.5%, PPI at 6%

• Oil above $100/barrel but the economy is less oil-intensive than the 1970s, sustaining 4% GDP growth

• Market now pricing 60% probability of at least one Fed rate hike by year-end — a major reversal from rate-cut expectations

• Tech (QQQ) is up 25% from late March, more than 17 percentage points ahead of the equal-weight S&P

• Foreign Treasury holdings at an all-time high of $9.24 trillion — contradicting the dominant narrative

• Midterm-year volatility is historically the steepest of the four-year cycle, but the rebound one year later is the strongest

  
  

Have questions about how this affects your portfolio?

The data behind the headlines often tells a different story — and that's exactly the kind of analysis we bring to every Sentara Capital client relationship. If you'd like to talk through what these numbers mean for your specific situation, we'd welcome the conversation.

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Click for Full Transcript

In our last market update, we said that we did not want to see the interest rates on a 10-year Treasury bond break above 4.5%. Well, since then, it has cracked above that level and raced higher. We're going to tell you what it means for your money. Also, oil continues to stay above $100 a barrel. That is driving inflation higher. We're going to discuss it. And lastly, Kevin Warsh is the new Fed chair, but his playbook that we expected just three months ago of rate cuts, the market is now pricing in rate hikes by the end of the year. We've got you covered, and a lot more. Let's get into it.

Over the last few months, we've talked a lot about the 10-year Treasury bond and what the rate on that has been doing. This is a key rate that determines mortgage rates and the rates that businesses pay when they go to borrow. It's also very important for the stock market. Over the last year, we had been remarking that every time this got up around 4.5%, it would go lower. This is something that President Trump noticed back in April of 2025 — this rate went from 4% to 4.5% in two days, and that caused him to do a 90-day pause on the tariffs, which caused the markets to go up 3,000 points in 10 minutes and started off a 7-month rally. Since then, we've again had three or four times this has reached 4.44 to 4.5%. We did not want to see this getting above 4.5%.

As we film this in late May, it has broken through and broken out all the way up to 4.68%. Part of the reason for this breakout is that commodity prices keep going up. Oil prices keep going up with the conflict in the Middle East, and that has caused inflation to go higher. This is going to be worth watching closely in the days to come because, for example, a 30-year mortgage is now at 6.7%. We have seen in the past that when that rate gets at 6.5% or higher, it really puts a freeze over housing, which is a key sector for the overall economy. We want to see this come back down below 4.5%.

Oil continues to be above $100 a barrel. Gas is above $4.50 a gallon nationally. That is killing the wallet for a lot of people across the country. In just a few months, oil has gone from $56 a barrel to $107. It was at $114 late in March — that was its peak. That's when Trump did his first pivot on the Iran deal, and that was the low in the stock market. Stocks have been performing a lot better recently even with oil prices this high, but that may not last for long.

The other impact that higher commodity prices are having is on inflation. We've talked about the fact over the last couple of months that we wanted to see inflation remain in the 2 to 2.5% range. The Fed wants inflation at 2%. To see rate cuts, you really need to see it there. That is not happening. In fact, the most recent numbers: we got 3.8% for the CPI, the consumer price index. That is year-over-year saying prices are up 3.8%. The PCE, which is the Fed's favorite measure of inflation, is at 3.5%. Lastly, the producer price index — wholesale inflation, business inflation — came in at 6% year-over-year. This was a stunner. We hope this wasn't a one-month aberration. This thing can bounce around a lot. We want to see it in the months to come come back down to that 3 to 4% range.

The next chart we want to cover is very interesting. A lot of people are saying, "Why is the economy not hurting more than it is with oil above $100 a barrel?" It's a great question. The answer is in the next chart. This measures the US oil intensity — in other words, how many barrels of oil does it take for $1 million of US GDP to be produced? We know that back in the 1970s we were a goods economy, and we have transitioned to a services economy over the last 10, 20, 30 years. The drop-off is from almost three barrels of oil needed down to half of one barrel. Here's what this means: if this was the 1970s and oil was at $100 a barrel, we would be in a recession now — no doubt about it. But because our economy takes a lot less oil now to produce its output, the economy is continuing to chug along.

To further that point, we like to look at the Atlanta Fed. They have a tracker for the US economy — what rate of growth are we expecting the economy to see in that particular quarter? Right now we're talking about the second quarter. This shows that over the last month, estimates have been rising and just hit 4% for the economy. That is an incredible growth rate, especially considering that oil is over $100 a barrel. In normal times, 2% is kind of what you would expect as a pretty good growth rate. This is two times that. Definitely a surprise to a lot of economists who thought we would be hurting a lot more than we are right now.

Next, we have a new Fed chair, Kevin Warsh. We talked about him and some of his background in our last video, but why I want to revisit this is just three or four months ago, expectations were that Trump was going to appoint someone who was going to cut interest rates, and it was expected Warsh would do that. But because inflation has gone up and commodity prices have gone up, the market's belief has flipped completely. What the market thinks interest rates are going to be by the end of 2026 — overnight interest rates that the Fed sets, currently at a range of 3.50 to 3.75% — the market is saying there's a 39% chance rates will still be there by the end of the year. But 42% chance that the Fed will have hiked rates once by the end of the year. And there's an almost 18% chance that they will hike rates two or three times. I don't think we're going to see two or three rate hikes, and we may not see any, but this is a real change from just a few months ago when a lot of people expected there were going to be rate cuts. It will bear close watching, and a lot of this will also depend on how quickly the conflict in the Middle East ends. The longer it goes on, the more likely the Fed will actually have to hike rates.

There is a saying that the market likes to test a new Fed chair. If you look at the last five or six Fed chairs, there tended to be a little bit of drama or volatility in the markets in the months following their appointment. Looking at the last five Fed chairs going back to 1979: Paul Volcker, who took over with inflation sky high — anyone who was alive in the late 70s, early 80s when mortgage rates were 18% understands what we're talking about. Over the first six months, on average, there was a selloff: 10% for Paul Volcker, 33% for Alan Greenspan (21% of which happened in one day, Black Monday — very vicious), Ben Bernanke down 7.7%, Janet Yellen down 4% (I think Kevin Warsh would take that if you could tell him), and then Jerome Powell down 7.3%.

The question is, if there's a big selloff somewhere in the first six months, was it not a good time to invest? Looking out one year later — including that selloff — four of the five chairs saw markets higher, and in some cases a good bit higher one year later. By the end of their term, there were huge returns for all of these Fed chairs. It's something to keep an eye on. It wouldn't be a surprise if we had extra volatility in the next few months.

Speaking of investing at the top of a mania, we put together a guide of portfolio red flags — mistakes we often see when we're looking at portfolio statements from prospects. That's one of the big ones on there. If you want a copy of that, you can click the link in the description and we'll send it to you.

The next chart looks back at late March and early April. We talked a lot about technology because a lot of people on CNBC and Fox Business were saying tech stocks had underperformed this year, and this could be a two-, three-, or four-year pattern. We, on the other hand, said tech was trading at some of the lowest valuations in the last 10 years. We liked tech — it's a key part of our client portfolios. Well, from March 30th to today, May 21st, tech (the QQQ trust, which is the NASDAQ) is up almost 25%. Right under that, the S&P 500 is up 16%. So you're talking about an over 50% better return there. The Dow Jones Industrial Average is up 9.6%. The equal-weighted S&P 500 — meaning the average stock in the S&P — is up only 7.4%. Emerging markets up 16, international stocks 11. And gold, something that a lot of people in late March said you had to put a lot of money in, is down 0.5%. We go over these things because a lot of times the narrative and public opinion is on one side of an issue and often gets it wrong.

Now it's time for rapid fire — where we go over some key charts you need to know about. We're going to start by looking at foreign holdings of US Treasury bonds. It takes a nerd probably to get excited about this topic, but basically throughout 2025 and a lot of 2026, a narrative has been that foreigners are selling US Treasuries and taking their money home. That is not the case. Going back to the 1970s, international investors' holdings of US Treasury bonds have pretty much consistently been going up over the last 40 to 50 years and are at a new all-time high as of late March 2026: $9.24 trillion. That is a huge number. It says there still is a lot of demand for US Treasuries from international investors. That is good to see, and it's much different than what the headlines have said for the last year and a half.

The next chart looks at the presidential calendar and the biggest selloff during the first year, midterm year, pre-election, and election year. We're looking at the midterm year specifically — on average it has seen a decline of 17.5%, much lower than any of the other years. What's interesting is that one year from that low, the gains have been almost 32% — much higher than any of the three other years. So we could get volatility, there could be a bigger selloff later in the year, but if that does happen, often the stock market bounces back in a very big way.

Last chart: we're looking at the current valuation of OpenAI, which is ChatGPT's parent, and Anthropic, which is Claude's parent. There has been so much excitement around these companies. Both of them are expected to IPO and go public this summer along with SpaceX. In the private markets, the valuation of OpenAI and Anthropic has been going straight up. Anthropic is now valued at even greater than OpenAI — up near $1 trillion. That is a huge valuation. There's a lot of excitement because they are growing so fast. It will be very interesting when these come public. We don't want a bubble to form. You don't want to see these valuations get much higher.

The key takeaway is that interest rates are up, oil is up, and inflation is up. But thankfully so is the economic growth rate, and so are company earnings. We think the markets can still power higher late in the year. If you are new to Sentara Capital and you are not getting these kinds of market updates from your advisor, we are here to help guide our clients through the volatility and chaos around the world. If you're not getting that from your advisor, please reach out at sentaracapital.com. Thanks for watching. Take care.