February 2020 We’re going to start this monthly update by focusing on the positive because there is so little of it in the media lately. The most notable news was the February employment report which astounded investors with a gain of 273,000 net new workers joining the workforce, 100,000 more than had been forecast. Moreover, […]
January 2020 The Treasury Department is the agency assigned the responsibility for issuing government debt, among other varied responsibilities. Since the financial crisis, the Treasury has been tasked with financing the enormous debt burden of the United States. Initially, criticism of profligate deficit spending was heard from the “Tea Party” politicians, but over the course […]
November 2019 As we ease into year end, the Fed has managed to avoid upsetting the capital markets as it did last December. Fed Chairman Powell, at the recent post-FOMC press conference sounded a tone of neutrality with regards to policy and despite repeated questions about the next move in the overnight lending rate, he […]
December 2019 The bullish stock market that generated such outsized returns last year continues its upward trajectory in the opening days of 2020. Undeterred by a supposed Iranian plot to kill Americans, the United States’ removal of the supposed plot mastermind, the Iranian missile attack response, including the Iranian attack of a Ukrainian passenger aircraft, […]
October 2019 Last month we wrote of the technical hiccup in the Repo market, the financing mechanism Wall Street utilizes to borrow money to pay for securities. We identified it as a symptom of too much government borrowing as the U.S. runs wider and wider deficits. To reiterate, the repo market is a little-followed, but […]
September 2019 An esoteric segment of the Fixed Income market not normally followed by the broad investment community is the Repo market (Repo is short for Repurchase Agreement). Repurchase agreements are the mechanism in which U.S. Treasury note and bond positions are borrowed or lent; the so called “grease” of bond market leverage. During the […]
August 2019 Since the interest rate cut at the end of last month, economic data has continued to suggest that the economy is growing moderately despite some trepidation in the manufacturing sector over trade tensions. Despite that fear, services and consumption continue to drive the economy. Moreover, with the workforce at full employment and wages […]
July 2019 The Federal Reserve lowered the overnight Fed Fund rate by 25 basis points as expected, at the conclusion of last month’s FOMC meeting. As is the case following every FOMC meeting, the Fed Chairman gave a press conference with the goal of ensuring market participants understand the thinking of the committee. Typically, the […]
June 2019
Last month we discussed the sudden and dramatic shift in interest rate expectations given the weakness of the May jobs report. We wrote about how that was not the first undershoot this year and that previous misses have been reversed in subsequent releases. It turns out that our guess was right, as the June jobs report, which was expected to show 160,000 net new jobs was actually reported as a gain of 224,000. Anticipating that it would be more than enough to convince the Fed not to raise rates, investors dumped fixed income, causing the yield-to-maturity of the 30-year to jump by nearly 10 basis points by the end of the day, as traders looked forward to Fed Chairman Powell’s testimony before congress the following week. The expectation was that he’d focus on the unexpectedly strong report and walk back the notion that the Open Market Committee would need to reduce rates at the end of July. In doing so he would be able to regain some of the confidence lost this year and avoid exacerbating imbalances already evident in the capital markets. Instead he went full-on “dovish,” denying that the current job market could be described as “hot,” and emphasized the global slowdown occurring outside of the United States. On the day of his testimony to the Senate, the Bureau of Labor Statistics released the Consumer Price Index with the measure exceeding expectations. The Core Index, which excludes food and energy, rose 2.1% year-over-year, above the Fed’s supposed target of 2.0%. Equity investors were euphoric to have better than expected economic data and the Fed preparing to cut interest rates.
We’ve noted on numerous occasions that the average American, when asked what they think their personal annual rate of inflation is, responds that it’s 3%, give or take a few basis points, followed by griping about the runaway cost of healthcare, insurance, and tuition. And yet month after month the BLS reports inflation that is well below that anecdotal rate. Of course the BLS “adjusts” the index in various ways to smooth out the variation and take into consideration the changing basket of goods and product substitution. We’ve always been skeptical of the BLS number and for good reason. Entitlement increases are based on the CPI numbers and the lower they are, the smaller the annual increase. In an effort to square the circle between the official inflation measure and the anecdotal rate of inflation that consumers so often quote we looked to The Conference Board, a private entity not affiliated with the U.S. government. The Conference Board, among other things, conducts a number of surveys of consumer behavior and attitudes which investors study in an effort to understand the health of the economy. Consumer confidence is the report that gains the most attention, but we looked to one of the secondary reports and were surprised by the tale it told. The report, Consumer Inflation Rate Expectation 12-months Hence, showed that since 2001, consumers have not once expected their cost of living in the coming 12 months to rise less than 4.0%. Not once in 216 measurement periods; we’d call that statistically significant! The respondents are the average Americans who base their cost of living projection on the cost of items they buy and not a basket of goods that the statisticians at the BLS massage to make it seem as inflation is not eroding the value of our paychecks. By the way, in the most recent survey the expected cost of living increase for the coming 12 months is 5.1%. And yet when we put pen to paper this time next month the Fed Funds rate is likely to be 25 basis points lower than where it stands today. There’s no wonder that Chairman Powell’s credibility has fallen so rapidly.
Copyright 2019, Halyard Asset Management, LLC. All rights reserved.
May 2019
We’re another month into the U.S.-China trade dispute and it appears that select economic data is softening somewhat. Despite that, we’re reluctant to jump to conclude that economic growth is on the verge of a recession. The most recent indicator to disappoint was the May employment report which indicated an increase of 75,000 new jobs for the month; well below the 175,000 expected. However, there are several factors that need to be taken into consideration. First, the Midwestern United States experienced heavy flooding and, as happens during a snowy winter, extreme weather often depresses job creation. Secondly, job creation has been quite erratic this year. January’s report indicated that the U.S. gained 312,000 jobs followed by 56,000 in February and 153,000 in March. Following the February and March reports market watchers started to worry that the Fed had been too aggressive in raising rates, especially with Trump waging a trade battle. Then, out of the blue, the April employment report showed job growth of 224,000, surprising on the high side.
Contrary to the monthly report, the weekly claims for unemployment insurance continue to come in at a very low rate. The most recent release indicated 222,000 new applications for unemployment insurance. To put that into perspective, at the peak of the crisis applications totaled more than 600,000 per week. Similarly, the JOLTS job opening report indicates that there are more than 7.4 million unfilled job openings. That’s just below the all-time peak in job openings reached last month.
Despite what is arguably full employment, fixed income investors have concluded that the Federal Reserve is going to cut the overnight lending rate to offset economic weakness. On the afternoon of the May employment report, Barclay’s bank forecasted that the Fed will cut rates by 50 basis points at the July meeting. That’s a bold prediction and one that would seem uncharacteristic for the Fed. Based on very little evidence and equity indices that rest just below an all-time high, it seems more likely that the FOMC will be reluctant to preemptively cut rates. They have taken great pains to project themselves as patient and deliberate. Also of consideration, the July report is released on the last day of the month. By that time, the June report will have been released as well as the revision to the May report. In terms of economic data, the steadiness of the U.S. economy could look quite different six weeks from now. The last thing the Fed wants to do is to cut rates and then reverse that cut shortly thereafter.
For sure, a big determinate will be the outcome of trade negotiations. As we’ve written before, a negative outcome will likely slow economic growth as consumers slow their purchases of more expensive Chinese-made goods. Tariffs have a tax-like effect on consumer prices, causing the price index to spike initially. It’s impossible to forecast the longer term impact on economic growth but suffice it to say that it wouldn’t be good for either country. It would appear that President Trump is betting that the impact to the Chinese market would be more damaging than it would be on the domestic market and, as such, the Chinese are more motivated to reach a near-term agreement. In the interim, the uncertainty of the outcome has wreaked havoc on the U.S. bond market as investors scramble for Treasury bonds.
On the other hand, should the U.S. and China reach an agreement and tariffs are successfully avoided it could be quite beneficial to our economy. Hopefully by this time next month we’ll have a successful resolution and we can begin worrying about the debt ceiling battle later this summer and a no-deal Brexit shortly thereafter.
Copyright 2019, Halyard Asset Management, LLC. All rights reserved.