Lacy Hunt Turns Bearish: Studying His Reversal

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Economist Lacy Hunt has been a bond bull longer than most money managers have been in the business. However, he recently made a surprising pivot on his bullish stance. The paragraph below opens his Second Quarter Review and Outlook:

The structural backdrop for U.S. inflation increasingly suggests that the long-run equilibrium range is migrating from roughly 1.5–3.5% toward 3.5–4.5%, with a significant risk of episodes of inflation above 5%. An important core reason is the steady erosion of the disinflationary architecture that dominated the 1990–2020 period, even as various cyclical pressures also play a role.

For nearly four decades, Hunt has been pounding the table for lower yields. As chief economist of Hoisington Investment Management, Hunt bought long-term bonds, betting that globalization and excessive debt impede economic growth, keeping a lid on inflation and interest rates.

Hunt held his deflationist line despite the extraordinary monetary efforts to stem the 2008 financial crisis, the decade of extremely loose monetary policy following the crisis, and the pandemic-related surge in the money supply and high inflation. .

So, when Hunt and his partner Van Hoisington posted their Second Quarter Review and Outlook "Capital Scarcity and the End of Globalization's Disinflationary Era," heads turned.

Backing their words with action, Hoisington Investment Management — managed by Hunt and Hoisington — sharply reduced its clients’ bond duration and put the proceeds in Treasury bills.

That reversal of such long-held opinions deserves serious attention. I will summarize Hunt’s new views and some counterpoints to help you assess his new stance.

It’s important to note my objective in this article is not to support Hunt or rebut his work, but to present his case and accompanying data to help you better assess his warning.

A Broken Production Function

Hunt's basic bond bullish thesis for the last 30-plus years rested on the core economic framework that economic output is a function of labor, capital, technology, and resources. Thus, anticipating changes to those four factors is paramount to forecasting output and inflation.

Hunt argues that the collapse of the Iron Curtain and China's entry into global trade, along with economic globalization involving many other countries, introduced “one of the largest positive supply shocks in modern economic history.”

Hundreds of millions of low-cost workers entered the global economy, with manufacturing concentrating in the regions that could do so most cost-efficiently. Simply, those countries that could produce at the lowest cost did so to the benefit of the global economy. From the U.S. perspective, outsourcing production resulted in cheaper goods.

Moreover, with enhanced global trade, global capital flows increased and resources became more abundant. Further, because of the dollar’s reserve status, steadily increasing global trade boosted demand for U.S. dollars and dollar investments like U.S. Treasury debt.

Deflationary Debt

Hunt claims that the macroeconomic environment of the last 30 to 40 years helped explain why increasing debt levels were disinflationary: “Diverted income away from consumption, restraining aggregate demand growth, while expanding global productive capacity absorbed liquidity and credit expansion without generating broad pricing pressure.”

Further to his case, monetary velocity fell. Velocity calculates how often a dollar circulates through the economy. Inflation is a function of the supply of money and, often overlooked, the velocity of money. For the better part of the last 40 years, velocity declined as money was increasingly parked in financial assets rather than investments in plant and equipment or consumption.

Corporate executives increasingly favored financial engineering — like stock buybacks — over capital investments. This inflated financial asset prices while doing little for the economy's underlying productive capacity.

Hunt’s Shift

Hunt’s new stance appears to be predominantly based on three factors.

First, in his opinion, globalization is reversing. Tariffs, reshoring, and friendshoring, alongside security-related trade protectionism, replace the "lowest-cost producer" model with a more expensive "secure and resilient producer" model.

Second, labor supply growth is slowing. The combination of lower birth rates, an aging population, and reduced immigration is decreasing the supply of labor, thus raising wage costs. Furthermore, with deglobalization, less outsourcing forces corporations to use more expensive domestic labor.

Third, capital is scarce. AI data centers, electrical grid modernization, and semiconductor fabs are all vying for the same scarce pool of capital, commodities, and skilled labor. At the same time, government deficits require significant capital, and the need comes at a time when the national savings rate is near historic lows.

Hunt’s Argument Versus the Data

While Hunt makes a very convincing argument, we must analyze recent and historical data to see if the trends he envisions are starting to play out.

Inflation Expectations

The market isn't buying into Hunt’s inflation forecast. As I share below, the five-, 10-, and 30-year breakeven inflation rates, as determined by TIPS and nominal Treasury securities, are at the same level they have been for the last four years and are not that different from the post–financial crisis era. For context, Hunt is forecasting a 3.5–4.5% equilibrium range and "episodes above 5%,” which he flags as a real risk.

While expected long-term inflation hasn’t budged, long-term real yields have risen appreciably, as shown below.

Given that Treasury yields are a function of expected inflation, current inflation, and the term premium, the graphs suggest that the term premium is largely to blame for higher interest rates. Investors are demanding higher yields as they are likely worried about the government's growing borrowing needs alongside the massive amount of capital being allocated to AI. This feeds into Hunt’s scarcity-of-capital argument, which I discuss next.

Capital Scarcity — Savings Rate

The U.S. appears to be entering a period in which the demand for capital is rising far faster than the domestic supply of saving.

Debt must be financed by domestic saving, foreign capital, or government intervention like quantitative easing (QE). A low domestic saving rate, shown below, means greater reliance on the other funding sources. Hunt warns that expanding the money supply via increasing the Fed balance sheet (QE) can help the scarcity problem, but it can also drive inflation higher.

The U.S. has operated with a low net national saving rate for most of the last 25 years. This shortfall of an important funding source for U.S. Treasury debt has been partly financed by foreign capital requiring dollar assets and QE at times. Despite the recent bout of higher inflation, poor bond returns, large fiscal deficits, and recent policy actions like tariffs, the international inflow of capital to the U.S. Treasury has continued to grow, offsetting the low saving rate.

Whether the U.S. can continue to depend on foreign investors depends heavily on the dollar's reserve-currency status, a variable Hunt's letter doesn't directly address.

I view the military actions in Venezuela and Iran, as well as some recent trade deals, as viable attempts to strengthen the dollar’s reserve currency status, thus bolstering foreign demand for U.S. debt.

Furthermore, forcing crypto stablecoins to hold U.S. Treasury securities as collateral should provide a multitrillion-dollar source of new funding for the Treasury.

QE

Hunt mentions QE as another possible source of future deficit funding. He views this as inflationary. To wit, he provides recent evidence:

Substantial liquidity injections occurred from mid-December 2025 through June 2026. In this period, the Federal Reserve purchased approximately $290 billion of Treasury securities, igniting a surge in bank deposits and loans. ODL rose at a torrid 8.9% annualized rate in this year's first six months—more than 1.6 times faster than its ten-year compounded growth rate… This Fed-driven liquidity event, along with the recovery in velocity, may explain a sharp February reacceleration in inflation prior to the latest geopolitical energy shock.

Hunt assumes that a recent seven-month bout of QE was inflationary. It may have been, but the graph below shows a weak but negative historical correlation between QE and inflation.

Hunt does concede that QE may not be an inflationary concern. He credits Federal Reserve Chair Kevin Warsh's balance-sheet restraint as "an important monetary offset to fiscal expansion."

Warsh, a Fed governor from 2006 to 2011, was arguably the Fed’s most consistent skeptic of asset purchases, and after his term ended, he became one of their most vocal outside critics. Warsh’s appointment as the Fed Chair, on its face, is a bet against the QE playbook; Hunt says it just reignited inflation. Hunt's predicted 3.5–4.5% inflation range may hold water if fiscal and market pressures overwhelm Warsh's instincts.

Global Trade

President Trump has imposed tariffs and other protectionist measures on many imported products. He has also incentivized domestic companies to shift production back home. While the actions may appear to have an anti-globalization impact, the data so far tell a different story.

Global trade — exports plus imports relative to world GDP — climbed to an estimated 68.5% in 2025, the highest level in 46 years, per the World Bank. Moreover, despite Trump’s trade policies, 2025’s 68.5% was a big jump from 56.7% in 2024.

If tariffs and reshoring were meaningfully unwinding globalization, that ratio would be flat or falling. Similarly, the U.S. trade deficit is bouncing around the same levels as it was under President Biden and worse than any reading before 2020.

AI & Productivity

Moving on to AI and productivity, Hunt rightly blames the capital intensity of building data centers and the resulting upgrades to the electrical grid for making capital scarcer and pushing interest rates higher. However, he gives little weight to the possibility that AI-driven productivity gains show up sooner rather than later and act as a disinflationary force, much as prior technology waves eventually did.

In my opinion, it is unknown when the productivity benefits of AI, including lower inflation, will ease the capital scarcity argument. History shows that the benefits could accrue rapidly, or they could take time.

Summary

None of the recent evidence I share indicates Hunt will be wrong. He is forecasting a regime change to the macroeconomic environment that recent data trends haven’t picked up on.

Hunt also acknowledges his forecast is not necessarily that of higher interest rates: “The result is not a simple forecast of continuously rising interest rates, but rather a more volatile interest-rate regime.”

He notes that a recession, a favorable supply shock, or successful balance-sheet restraint under Chairman Warsh could still deliver lower inflation and falling rates. His Treasury Bill purchases appear to be not just a bet on higher inflation and a sustained high term premium, but equally a desire to avoid volatility in the long end of the curve.

I have the utmost respect for Hunt, but it’s important to remember that he is making a forecast — an educated guess. His warnings may prove correct, but he is predicting a big change in the way the global economy operates and its impact on capital flows. He is also making assumptions about one of the greatest technological innovations that is just in its infancy.

Is the COVID-19 echo coming to an end, allowing 40 years of disinflationary trends to reassert themselves — or are we in the early stages of the macroeconomic regime change Hunt predicts?

Read more by Michael Lebowitz:

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Michael Lebowitz is a portfolio manager with RIA Advisors and author for Real Investment Advice. For more information, contact him at [email protected] or 301.466.1204.

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