Halyard’s Weekly Wrap
our thoughts on the past week’s market activity, economic releases, and Federal Reserve commentary
our thoughts on the past week’s market activity, economic releases, and Federal Reserve commentary
3/15/24 – Bracketology vexes US Treasury Market – Yields rise
The bullish tone on which the bond market closed last week has completely reversed and is closing this week with a decidedly bearish resolve. The hope had been that the inflation measures this week would show further progress toward the Fed’s 2% target. That didn’t happen. Instead, the Consumer and Producer price indices both moved higher on a month-over-month basis in February. The core CPI index was 0.4% higher than the January measure, rounding to roughly 5.0%, a far cry from the Fed’s target.
On the other hand, retail sales for February disappointed as the actual month-over-month change came in at 0.6% versus the 0.8% expected and the January outcome was revised 0.3% lower. The lower-than-expected sales were not nearly enough to offset bond selling as investors have become concerned that inflation is reemerging. Exacerbating that concern was Treasury Secretary Yellen’s comments on Wednesday that the inflation trend was favorable, but she doesn’t expect a “smooth path” lower. Reading between the lines, we wonder if that means that we should expect inflation to annualize at 3.8% for the foreseeable future? That’s an important question for several reasons. First, the yield curve is inverted. The yield curve becomes inverted when investors expect that rates will be falling in the future. If inflation becomes imbedded at the current level, interest rates will not be falling anytime soon. Secondly, historically the 10-year treasury note trades about 150 to 200 basis points above inflation, which means that the current 10-year is mispriced. Plugging the 10-year into the Bloomberg price calculator assuming 3.8% inflation indicates, using the historical rule of thumb, that the 10-year is approximately 7.5% too expensive. That’s an enormous overvaluation!
All eyes will be on the outcome of the FOMC next Wednesday. The Fed is not expected to make a change to the overnight rate, but the economic projections of the various members will generate close scrutiny. Those “dot plots” upended the market in December when it showed the expectation of three rate cuts this year and the hint that the first rate cut would be at the March meeting. At the time, the conventional wisdom was that the rate hikes to date were at risk of pushing the economy into a recession and the cuts would be needed to stimulate the economy as it faltered. Through the first 10 weeks of 2024, only pockets of economic weakness have been observed while employment remains strong and inflation stubborn. We suspect that three rate cuts will continue to be the consensus but wouldn’t be surprised to see several of the forecast’s drifting higher. Especially since five members forecast that rates could be cut by more than 75 basis points this year.
This commentary is being provided by Halyard Asset Management, L.L.C. and its affiliates (collectively “Halyard” or “we”) for informational and discussion purposes only and does not constitute, and should not be construed as, investment advice, or a recommendation with respect to the securities used, or an offer or solicitation, and is not the basis for any contract to purchase or sell any security, or other instrument, or for Halyard to enter into or arrange any type of transaction as a consequence of any information contained herein. Although the information herein has been obtained from public and private sources and data that we believe to be reliable, we make no representation as its accuracy or completeness. The views expressed herein represent the opinions of Halyard Asset Management, LLC, or any of its affiliates, and are not intended as a forecast or guarantee of future results. Past performance is not indicative of future results.
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Halyard’s Weekly Wrap – 1/12/24
/in Weekly Wrap/by halyardCommunicating that they expected three 25 basis point rate cuts this year, the open market committee members convinced bond buyers that all was well and to expect inflation to continue to fall as the year progressed. Then the December inflation reports were released. On Thursday the consumer price index, year-over-year, reversed course and ticked up to 3.4%, up from the 3.1% recorded last month. The expectation was that it would rise 0.1%. On the same morning, the lesser-followed Atlanta Fed wage tracker, a measure of aggregate wages, ticked up to 5.4% year-over-year from the 5.1% recorded in November. Those measures indicate that consumers are still “paying up” to consume and are demanding higher wages to keep pace with rising prices. That result is going to make it difficult for the Fed to cut the overnight rate at the March FOMC meeting. That meeting is scheduled for March 20th, giving the Fed two more inflation reports to examine. But, given the Fed’s newfound credibility as an inflation-fighter, we think the committee will be unwilling to cut rates while inflation is still a problem.
Halyard’s Weekly Wrap – 1/5/24
/in Weekly Wrap/by halyardThe first week of the new year had been a quiet one until the employment report was released this morning. The headline non-farm payrolls surprised to the upside, with 216,000 new jobs added to the workforce, and the unemployment rate falling to 3.7%. At first glance the report was a solid one and the bond market immediately sold off. However, digging into the details revealed that it was not as robust as the headline suggested. Glaringly, household employment fell 683,000; the biggest drop since April 2020 when COVID crushed employment for much of the workforce. It’s not unusual for the non-farm and the household reports to deviate, but an 899,000 deviation leads us to conclude that one or the other will be significantly revised. Later this morning, the Institute for Supply Management (ISM) reported a sharp drop in their services employment survey. Again, the drop was the sharpest since April 2020. Investors seem to have interpreted the combined reports as offering a solid backdrop for the Fed’s plan to cut rates this year.
Halyard’s Year End Wrap – 12/31/23
/in Weekly Wrap/by halyardIt’s been a remarkable year in the capital markets! Last December, year-over-year consumer price inflation was running 6.5% and the Federal Reserve was solidly in “higher for longer” mode with the committee prepared to continue to raise rates to quell inflation. The ten-year Treasury opened 2023 yielding 4.48%, ticked up to a high of 4.65% early in the year, before ultimately settling at 3.88%. The Fed communication has changed dramatically in the last 12 months. They dropped the higher for longer mantra this month, instead communicating that they anticipate three rate cuts in the coming year. Let’s hope they’re not premature in their abrupt policy change. By several measures, the economy continues to run hot, especially employment. It has become clear that there’s a worker shortage in the United States. The unemployment rate in November was 3.7%, just above the all-time low. The Fed usually doesn’t cut rates when unemployment is near a cycle low. But this Fed has proved that they have no interest in any rules-based policy.
Halyard’s Weekly Wrap – 12/22/23
/in Weekly Wrap/by halyardThe Euphoria from last week’s news that the Fed was done raising interest rates and expects to cut rates by 75 basis points next year continued into this week. In anticipation of those cuts, the entire yield curve has priced approximately 100 basis points lower. The knock-on effects can be found almost everywhere; the S&P 500 is less than 1.0% off an all-time high, mortgage rates are back below 7.0%, and consumer confidence as measured by the Conference Board’s present situation index is skyrocketing. But we wonder if that euphoria is unwarranted. After all, the move lower in rates is an easing of financial conditions, coming while year-over-year core CPI is 4% and pressure for higher wages is unrelenting.
Halyard’s Weekly Wrap – 12/15/23
/in Weekly Wrap/by halyardThis was a week when investors would have done well ignoring the economic calendar and instead focused on the summary of economic projections, more widely known as the “dot plot.” Released along with the minutes of the open market committee meeting on Wednesday, the dot plot showed a change in thinking from the committee. Investors had been speculating that the Fed had reached the peak of their tightening cycle and the FOMC release confirmed that. The dot plot released in September showed more than half of the committee expected an additional rate hike this year. The December chart indicated that no members anticipate any additional hikes this year. Moreover, the median view is that there will be 75 basis points of rate cuts in 2024. With that decidedly dovish statement, stock and bond markets continued their bullish run. The five-year Treasury note is trading below 4%, closing the week out at 3.92%, while the S&P 500 continues its parabolic rise, rallying more than 15% since the last week of October.
Halyard’s Weekly Wrap – 12/8/23
/in Weekly Wrap/by halyardThis morning’s employment report delivered a curveball to market participants who had been looking for continued economic moderation. That was not to be the case. The economy added 199,000 new jobs in November, up from the previous month and 14,000 more than the consensus had been expected. Average hourly earnings rose 4.0% year-over-year, as it did the prior month. But what really grabbed the investor’s attention was the downtick in the unemployment rate, which came in at 3.7%, 0.2% below the previous month. The large change in household employment, 747,000 new jobs reported, and the change in the size of the workforce, 532,000 new entrants, was responsible for the decline.