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About Asset Management

Since 1991, FirstSouthwest Asset Management has worked closely with governmental entities nationwide to deliver expertise across two primary areas:

  • Investment Management
  • Arbitrage Rebate Compliance Services

As public sector investment officers are asked to do more with fewer resources, our professionals are partnering closely with each client to ease this burden while delivering the benefits of our knowledge and experience.  

 

Advisory services offered through First Southwest Asset Management Inc., a SEC-registered investment advisor.

Economic Insights


RETAIL SALES SURGE WITH WARM WEATHER

Monday, April 14, 2014   

CONSUMER SPENDING THAWS
Fed officials had figured weak retail sales data over the past several months was simply a result of severe winter weather and would snap back in the spring. This was indeed the case in March as sales rose by 1.1%, the most since September 2012. The auto category led the increase with its biggest gain in 18 months. Department store sales racked up their biggest increase since March 2007. And icing on the cake was a substantial revision to the previous month as the February overall gain was boosted from +0.3% to +0.7%.

Retail sales are an important indicator in the consumer-driven U.S. economy. Very simply, when consumers spend money, the economy grows. Of course, at the end of the day, Americans are limited by how much they earn, and earnings growth has been uneven and mostly anemic post-recession.

Market reaction so far this morning is limited. Stocks are up and bonds are mostly flat. The data was good, but there’s still some question as to whether we’re witnessing a snap-back or an upward trend.   

MARKET INDICATIONS AS OF 8:45 A.M. CENTRAL TIME

DOW

UP 80 TO 16,107

NASDAQ

UP 23 TO 4,023

S&P 500

UP 9 to 1,821

1-Yr T-bill

current yield 0.09%; opening yield 0.09%

2-Yr T-note

current yield 0.36%; opening yield 0.36%

5-Yr T-note

current yield 1.59%; opening yield 1.58%

10-Yr T-note

current yield 2.63%; opening yield 2.63%

30-Yr T-bond

current yield 3.48%; opening yield 3.48%

 


LABOR REPORT PROVES LUKEWARM AT BEST

Friday, April 4, 2014


MARCH EMPLOYMENT MEETS EXPECTATIONS BUT MISSES WHISPER
The range of economist forecasts for March payroll gains ranged from +150,000 to +275,000, with a median forecast of +200,000. There were however, whispered numbers of 300,000+ as a few analysts thought the snapback from inclement winter weather would be significantly large. As it turned out, the actual job gains for March were +192,000, while another 37,000 were added in revisions to prior months. Private payrolls were responsible for the entire March gain as net government payrolls added nothing to the total.

For the first three months of 2014, payroll gains have now averaged +177,000. For all of 2013, company payrolls grew by an average of 194,000. According to a Bloomberg News story, the economy has now recovered all but 437,000 of the 8.7 million jobs lost during the recent recession. Of course, this doesn’t consider population growth during that time period.   

According to the Bureau of Labor Statistics, March job gains were concentrated in professional and business services (+57k), food services and drinking establishments (+30k), construction (+19k) and healthcare (+19k). It’s worth noting that more than half of the business and professional services total was in lower paying temporary help services.

This is probably a good spot to mention some findings from a 2012 report by the National Employment Law Project - During the recession, 60% of job losses fell into the middle-wage category, paying between $13.83 and $21.13 per hour, while 21% of recession losses were in the lower-wage category, paying between $7.69 and $13.83. During “the recovery,” only 22% of the new jobs were considered middle-wage, while 58% were lower-wage. These numbers are pretty stale, but the trend seems to be continuing. Average hourly earnings were essentially unchanged in March, while year-over-year earnings growth fell from 2.2% to 2.1%. This goes a long way in explaining why the recovery has been so lackluster thus far.

Back to the employment report …the official unemployment rate held at 6.7%. This has little meaning now that the Fed has taken away the 6.5% threshold below which they’d consider raising the overnight funds rate. There are still 10.5 million Americans actively searching for work, another 2.2 million not being counted because they haven’t looked for work in the past four weeks, and approximately 8 million  involuntary part-time workers, nearly double the number before the recession. The broader U6 measure of unemployment, which considers everyone who would accept a full-time position if one were available, drifted up from 12.6% to 12.7% last month.  

So, the March report generally met low expectations, but fell short of loftier hopes. As a result, the Fed is unlikely to alter its tapering schedule, and the timing of an initial overnight rate hike is still probably at least 18 months away. Stocks are up in early trading and bond yields are slightly lower across the curve.

MARKET INDICATIONS AS OF 9:25 A.M. CENTRAL TIME

DOW

UP 31 TO 16,603

NASDAQ

DOWN 19 TO 4,218

S&P 500

UP 8 to 1,897 

1-Yr T-bill

current yield 0.10%; opening yield 0.11%

2-Yr T-note

current yield 0.42%; opening yield 0.45%

5-Yr T-note

current yield 1.72%; opening yield 1.80%

10-Yr T-note

current yield 2.75%; opening yield 2.80%

30-Yr T-bond

current yield 3.60%; opening yield 3.63%

 


BETTER DATA, COMMENTS FROM YELLEN WARM THE MARKET

Tuesday, April 01, 2014


SPRING THAW
Today’s results from the ISM manufacturing index reveal what we expect (hope) will be the start of a trend, a thawing in the economy. As we have written throughout the last few months, much of the economic data has been depressed by an unusually cold winter. Economists have been forecasting better data as the weather begins to warm up. The first sign of a spring thaw was found in the March ISM manufacturing gauge, which rose a half point to 53.7 from 53.2. While that is still well below the 57.0 reached in November, it is much improved from the 51.3 reading in January. Sub-components were mixed, with new orders, production, and backlog of orders all rising, while inventories, delivery times, and prices paid all declined. The employment component fell from 52.3 to 51.1 and considering the importance of employment data (more on that in a moment), this is worth paying attention to. The bottom line is that manufacturing did improve a bit in March and while we are headed in the right direction, activity remains subdued when compared to the pre-winter and pre-taper levels of last year.

Another sign of the thaw came in the just released auto sales data for March as total vehicle sales climbed to a 16.3 million unit annual pace, from 15.3 million in February. That is the highest annual rate of sales since December 2006 and miles above the September 2009 recession low of 9.36 million.

YELLEN BACK PEDALS
Two weeks ago, Federal Reserve Chair Janet Yellen inadvertently caused a bit of a stir in financial markets when she suggested that rate hikes could begin as early as six months after the conclusion of QE3, which markets interpreted as meaning that rate hikes could start in mid-2015. Yesterday, Yellen sought to reestablish her dovish credentials in a speech in Chicago. Yellen pushed back against that mid-2015 time table, making extensive comments about the slack in the labor market, the lack of wage growth, and the absence of inflationary pressures. She emphasized that "this extraordinary commitment (to policy accommodation) is still needed and will be for some time." An opinion which, she noted, "is widely shared by my fellow policymakers at the Fed." Markets seemed to get the message as Treasury yields from two- to five-years fell by 3-5 basis points yesterday before giving back some ground following today’s solid economic data.

Yellen’s comments serve to highlight, once again, the importance of the monthly employment data. Not just the number of jobs created or the unemployment rate, but the entire employment picture, including wages, turn-over rates, long-term unemployment, labor force participation and a myriad of other indicators of the overall health of the job market. Other data, while important, will pale in comparison. A strong ISM manufacturing report, surging retail sales, or improving home sales will be meaningless unless they are accompanied by improving employment trends. The next read on the job market comes tomorrow with the ADP employment report, and then the official BLS employment report on Friday. 

MARKET INDICATIONS AS OF 3:00 P.M. CENTRAL TIME

DOW

UP 75 TO 16,533

NASDAQ

UP 68 TO 4,267

S&P 500

UP 11 to 1,883 (Record High)

1-Yr T-bill

current yield 0.11%; opening yield 0.11%

2-Yr T-note

current yield 0.43%; opening yield 0.42%

5-Yr T-note

current yield 1.74%; opening yield 1.72%

10-Yr T-note

current yield 2.76%; opening yield 2.72%

30-Yr T-bond

current yield 3.61%; opening yield 3.56%

 


DATA THIS WEEK WAS MIXED


Friday, March 28, 2014


CONSUMER CONFIDENCE CLIMBS TO A SIX-YEAR HIGH
Most of the economic data released this week was mixed, although the ever-important consumer appears to be in pretty good shape. On Tuesday, the Conference Board’s measure of consumer confidence rose to a post-recession high of 82.3 in March. All of the increase was attributed to a jump in future expectations, as a 7 point rise in March more than reversed a 4 point February drop. The current conditions index retreated by half a point in March after reaching a six-year high in February. Digging deeper, the percentage of survey respondents believing jobs were "plentiful" dropped from 13.4% to 13.1% in March, while the percentage thinking jobs were "hard to get" climbed from 32.4% to 33.0%. The percentage of responders expecting to buy homes or automobiles in the next six months declined, while the percentage anticipating a major appliance purchase rose. 

On Wednesday, the February durable goods number flashed headline strength, but underlying weakness. Headline durable goods orders increased by a bigger than expected 2.2%, but most of the increase was in the volatile defense category, which jumped by 13.5%. The ex-defense/ex-aircraft orders, a reliable gauge of future business investment, actually fell by 1.3%. This particular series advanced by a mere 0.8% in January and fell by 1.6% in December. So, for whatever reason, the near-term outlook for future business investment is weak.  

On Thursday, the final fourth quarter GDP revision boosted economic growth upward from 2.4% to 2.6% on the strength of better consumer spending. Although the data from the last three months of 2013 is now stale, it does suggest that the economy may be in better shape to withstand the ongoing withdrawal of QE3 accommodation by the Fed. Another positive is that the Q4 inventory buildup was insignificant, meaning that inventories are probably in line despite poor sales in Q1. Also on Thursday, initial claims for the week ending March 22
nd fell to 311k, the lowest level in 25 weeks. This is an apparent positive for employment. And finally, pending home sales fell by 10.2% year-over-year and 0.8% in February, the 8th straight monthly decline. Clearly, higher lending rates are taking a toll on housing.

FED CHATTER
Charles Evans, the Chicago Fed President and a non-voting member of the FOMC this year, spoke on Bloomberg TV this morning, saying he favored an unemployment threshold of 5.5% and that inflation would be the primary reason for the Fed to raise rates in the second half of 2015, although if it were up to him, he’d wait a little bit longer.  As far as inflation is concerned, the Fed’s favorite measure, core Personal Consumption Expenditures (PCE) rose by just 0.1% in February and 1.1% year-over-year.  If the Fed is concerned about the economy overheating and inflation rising above 2%, it has a long way to go.

The general expectation is clearly that the economy will pick up in the spring months, and as a result, price pressures will increase, thereby forcing the Fed to try and slow the economy to keep a lid on prices.  However, fueled by unprecedented stimulus for five years, economic performance has been mediocre at best. It remains to be seen whether the economy will flourish after the stimulus is withdrawn.

MARKET INDICATIONS AS OF 2:00 P.M. CENTRAL TIME

DOW

UP 38 TO 16,302

NASDAQ

UP 3 TO 4,154

S&P 500

UP 6 to 1,855

1-Yr T-bill

current yield 0.11%; opening yield 0.11%

2-Yr T-note

current yield 0.45%; opening yield 0.45%

5-Yr T-note

current yield 1.74%; opening yield 1.72%

10-Yr T-note

current yield 2.71%; opening yield 2.68%

30-Yr T-bond

current yield 3.54%; opening yield 3.53%

 


YIELDS HIGHER AFTER FED ANNOUNCEMENT

Wednesday, March 19, 2014


FED CONTINUES TO TAPER AND DROPS THE 6.50% EMPLOYMENT THRESHOLD
Fed meetings have gotten quite a bit more interesting in recent months as Fed members decide the timing of stimulus unwind. This afternoon, at the conclusion of the second FOMC meeting of the year and first with Janet Yellen leading, Fed officials announced that they would continue to taper back on QE3 bond purchases. The largely expected reduction of $10 billion at the third straight FOMC meeting brought scheduled purchases down to $55 billion per month. The move was justified by an “improvement in the outlook for labor market conditions,” as well as perceived “sufficient underlying strength in the broader economy.”

The Committee also (as expected) dropped the 6.5% unemployment threshold below which they had pledged to consider raising short term rates. With the unemployment rate dipping to 6.6% in January before drifting back up to 6.7% in February, that threshold level was in danger of being breached, although employment conditions remain historically weak. Instead, FOMC members pledged to consider a vague “wide range of information.”  

The official statement showed the Fed expects to keep the overnight funds rate near zero for a “considerable time" following the conclusion of QE3, which at the current pace should conclude by the end of this year. The Committee reiterated that economic conditions could warrant maintaining the overnight rate target “below levels viewed as normal in the longer run."  

The assessment of appropriate monetary policy showed that just one of 16 committee members thought rate increases should begin in 2014, 13 thought 2015 was most appropriate, while two believed 2016. The individual projections showed that committee members expected tightening to be fairly significant once it began, with only six FOMC members expecting overnight rates to be below the 1.00% mark at the end of 2015.

The housing and equity markets have thrived in the low rate environment. Many wonder whether the current moderate rate of economic growth can be sustained as the stimulus is reeled in.

Small stock market gains reversed themselves after the announcement, although deterioration has been limited. Bond prices have fallen, pushing yields higher, although this move was also limited.

The Fed is steadfast in its determination …which isn’t a bad thing. The markets seem to have confidence in the actions of the Yellen Fed.    

MARKET INDICATIONS AS OF 2:05 P.M. CENTRAL TIME

DOW

DOWN 53 TO 16,284

NASDAQ

DOWN 15 TO 4,318

S&P 500

DOWN 5 to 1,867

1-Yr T-bill

current yield 0.13%; opening yield 0.12%

2-Yr T-note

current yield 0.42%; opening yield 0.35%

5-Yr T-note

current yield 1.70%; opening yield 1.55%

10-Yr T-note

current yield 2.77%; opening yield 2.67%

30-Yr T-bond

current yield 3.66%; opening yield 3.61%


POCKETS OF STRENGTH

Thursday, March 13, 2014


JOBLESS CLAIMS DECLINE WHILE RETAIL SALES CREEP HIGHER
This morning, first-time filings for unemployment benefits fell from 324k to 315k, the lowest level since September. The weekly jobless claims number is an important piece of the labor market puzzle and would seem to suggest that employment conditions are stronger than the last three monthly BLS reports have indicated. 
Also this morning, February retail sales rose by 0.3%, the first positive number since November. There was a 0.3% rise in building materials, which bodes well for housing, and vehicle sales also increased by a respectable 0.3%. Before getting too excited about the apparent sales upturn (which may fully materialize when the weather warms), it should be noted that the February increase was almost entirely a result of downward revisions to the previous two months, as the January decline was lowered from -0.4% to -0.6% and December from -0.1% to -0.3%.

The markets are still in a wait-and-see mode. Severe weather conditions have dealt a blow to the December, January and February economic data, but no one really knows whether the declines can be fully blamed on cold temperatures and heavy snowfall, or whether storms are masking some underlying weakness.

The Fed meets on Tuesday and Wednesday of next week. It is most likely that the FOMC announces another $10 billion taper in the pace of asset purchases, bringing the monthly buy amount down to $55 billion. 

The equity markets were up in early trading, but are now down.  Bonds are flat. The numbers were good this morning, but the picture is still far from clear.

MARKET INDICATIONS AS OF 10:00 A.M. CENTRAL TIME

DOW

DOWN 43 TO 16,297

NASDAQ

DOWN 14 TO 4,310

S&P 500

DOWN 2 to 1,866

1-Yr T-bill

current yield 0.12%; opening yield 0.12%

2-Yr T-note

current yield 0.37%; opening yield 0.36%

5-Yr T-note

current yield 1.59%; opening yield 1.59%

10-Yr T-note

current yield 2.72%; opening yield 2.73%

30-Yr T-bond

current yield 3.65%; opening yield 3.67%

 


LABOR SURPRISE PUSHES YIELDS HIGHER


Friday, March 7, 2014


BUSINESSES HIRE DESPITE BITTER WEATHER CONDITIONS
The economic question of the quarter is …to what extent can the current economic slowing be blamed on the weather?  Both the December and January nonfarm payroll reports had fallen well below analyst’s forecasts. The February report promised more of the same, especially since the particular survey week was one in which snow and ice covered grounds of 49 of the 50 U.S. states. The ADP employment report, released earlier in the week, showed a below-forecast 139k new jobs added in February and a huge downward revision to January, while the ISM employment index showed the first sub-50 reading in 3½ years, suggesting that employers were not expected to hire in the near-term.

Analysts were generally forecasting a weak February nonfarm payroll number at around 149k.
But, it didn’t happen. 

This morning. nonfarm payrolls actually grew by 175k in February, while January job growth was revised upward from 113k to 129k and December from 75k to 84k. These are, by no means, stunning numbers. After all, the three-month average, now at a meager 129k, is still a far cry from the solid 225k three-month average the Fed had considered before announcing the start of its taper in December. But, the February jobs number surprised to the upside and supports the notion that Fed tapering will continue at the March 18-19 FOMC meeting. As a result, bonds have sold off in early trading, driving yields higher.

In the separate household survey, the unemployment rate actually climbed from 6.6% to 6.7% as just 42k Americans found new jobs during the month while the labor force grew by 264k. One wrinkle in the unemployment calculation is that a reported 601k workers were unable to report for work due to inclement weather, about double the norm. As weather conditions improve (all else being equal) the unemployment rate would be expected to recede.

Average hourly earnings rose by 0.4% in February, the biggest gain since June, boosting year-over-year growth to 2.2%. Earnings growth has averaged 2.0% for the previous two years. Some might argue that wage inflation is brewing and use this notion as a basis for the Fed to tighten monetary policy sooner-rather-than-later, but in all likelihood, the wage growth volatility pattern will continue, and the Fed will hold short rates low for at least another 18 months.

At the end of the day, the February labor data was better-than-expected, but not particularly good. The take away is that businesses still hired at a decent pace,
despite the weather, and would probably have hired more workers if the ground wasn’t covered in ice. Time will tell.

The back-up in bond yields reflects the expectation that the Fed will announce another $10 billion cut in its monthly asset purchase program 12 days from now.  

MARKET INDICATIONS AS OF 9:00 A.M. CENTRAL TIME

DOW

UP 77 TO 16,499

NASDAQ

DOWN 7 TO 4,345

S&P 500

DOWN 1 to 1,876

1-Yr T-bill

current yield 0.12%; opening yield 0.12%

2-Yr T-note

current yield 0.37%; opening yield 0.34%

5-Yr T-note

current yield 1.64%; opening yield 1.57%

10-Yr T-note

current yield 2.80%; opening yield 2.74%

30-Yr T-bond

current yield 3.74%; opening yield 3.69%

 


UNEVEN ISM DATA AS EMPLOYMENT FRIDAY APPROACHES


Wednesday, March 5, 2014

PURCHASING MANAGERS’ SURVEYS CONTRADICT

On Monday, as another wave of arctic air blasted the Northern part of the nation, the ISM manufacturing index for February showed signs of warming up. The closely watched composite climbed from 51.3 to 53.2, above the median Bloomberg forecast, but well below the 56.2 average during the final six months of 2013. Recall that any number above the 50 mark indicates expansion; below 50 indicates contraction.

The negative impact of freezing temperatures pushed the supplier delivery times index back from 54.3 to a three-year high of 58.5. High energy prices, also related to cold weather, kept the ISM prices-paid index at an elevated level of 60.0 following a 60.5 reading in January.

This morning, the ISM nonmanufacturing (service sector) index unexpectedly dropped from 54 to 51.6, a four year low. The median forecast was for a much smaller drop to 53.5. The decline in the non-manufacturing index was particularly puzzling since the service sector isn’t affected by weather quite as much as the manufacturing sector. Within the February data, the new orders index rose from 50.9 to 51.3. Unfortunately, the closely watched employment index plunged from 56.4 to 47.5, reinforcing the notion that the labor market may be floundering.

WEAK ADP EMPLOYMENT NUMBER IS A BAD SIGN FOR FRIDAY’S BLS REPORT
Also released this morning, the ADP employment report fell short of expectations as private sector payrolls grew by a lackluster 139k in February, while the January number was revised sharply downward from 175k to 127k. The ADP data is affected less by weather than the closely watched report from the Bureau of Labor Statistics (BLS) since the ADP counts everyone on company payrolls, while the BLS only counts workers who were paid at least one day during the survey period.

Friday morning is the scheduled release for the monthly BLS employment report and the expectation is that the large storm that hit the Northeast and shut down the Federal government during the survey week, will contribute to the third straight month of sub-par payroll growth. The question on everyone’s mind is exactly how much of the weakness is due to weather and can be expected to reverse itself in the coming months. The Fed has been optimistic enough to continue on its tapering path, but with the March FOMC meeting less than two weeks away, a possible pause can’t be ignored.  

MARKET INDICATIONS AS OF 10:10 A.M. CENTRAL TIME

DOW

UP 14 TO 16,382

NASDAQ

UP 3 TO 4,359

S&P 500

UP 1 to 1,875

1-Yr T-bill

current yield 0.12%; opening yield 0.11%

2-Yr T-note

current yield 0.32%; opening yield 0.33%

5-Yr T-note

current yield 1.53%; opening yield 1.54%

10-Yr T-note

current yield 2.68%; opening yield 2.70%

30-Yr T-bond

current yield 3.63%; opening yield 3.65%

 


FROZEN CONDITIONS CHILL ECONOMIC GROWTH

February 28, 2014

ECONOMIC GROWTH IN Q4 IS SLOWER THAN ORIGINALLY THOUGHT

The Commerce Department reported that the first scheduled revision of Q4 GDP lowered annualized economic growth in the final quarter of last year from a solid 3.2% to a sub-par 2.4%. A decline had been largely expected as analysts factored in deteriorating weather conditions late in the year. Personal consumption, the biggest component of GDP, accounted for 0.53% of the overall revision as it slipped from 3.3% to 2.6%. The inventory contribution turned out to be significantly less than previously thought, contributing 0.14% to overall GDP instead of 0.42%.

Government spending continued to get squeezed, tumbling 5.6% and subtracting a full percentage from overall GDP. For all of 2013, government spending fell by 5.2%, the biggest decline since 1971. The housing sector contribution weakened further as residential investment declined 8.7% after producing double digit growth in seven out of the last eight quarters.

The likelihood is that Q1 2014 growth will prove to be even weaker than Q4 2013 as weather conditions across the Northwest and Midwest have been among the worst in recorded history. The equity markets are up in early trading this morning probably based on the notion that economic growth seems to be much slower than the Fed was anticipating when it began tapering in mid-December.

Next Friday, the February employment data will be released. After two months of unexpectedly weak payroll growth, most analysts are bracing for yet another chilled employment report. A number of economists now believe the Fed could pause its tapering at the March meeting to reassess the underlying strength of the economy. In theory, this would be positive for both stocks and bonds …at least for a while.  

MARKET INDICATIONS AS OF 9:55 A.M. CENTRAL TIME

DOW

UP 94 TO 16,366

NASDAQ

UP 17 TO 4,336

S&P 500

UP 11 to 1,866

1-Yr T-bill

current yield 0.10%; opening yield 0.10%

2-Yr T-note

current yield 0.32%; opening yield 0.34%

5-Yr T-note

current yield 1.54%; opening yield 1.48%

10-Yr T-note

current yield 2.69%; opening yield 2.64%

30-Yr T-bond

current yield 3.62%; opening yield 3.59%

         


RETAIL SALES IN DEEP FREEZE


Thursday, February 13, 2014

WINTER PUTS THE CHILL ON RETAIL SALES
Severe winter weather across much of the country is once again being blamed for a chilly economic report. January retail sales were put on ice, falling 0.4% from a downwardly revised -0.1% in December (previously reported as +0.2%), as 9 of the 13 major categories declined. November data, which had originally been reported as a gain of 0.7% and already revised lower to +0.4%, was reduced even further to +0.3%. The median forecast in Bloomberg’s survey was for January sales to be unchanged with no revisions to prior months. Today’s data fell well short of those expectations and is made even worse by the downward revisions to prior months. Sales ex-autos were unchanged while sales ex-autos and gas fell 0.2%. The retail sales control group, which feeds into GDP calculations, was -0.3%, versus a forecast of +0.2%, and both November and December were revised lower. On a year-over-year basis, headline retail sales are growing at a scant 2.6%, the slowest pace since late 2009. This was a rotten report and has economists lowering their estimates for Q4-2013 GDP as well as Q1-2014 GDP. The initial Commerce Department estimate pegged Q4-2013 GDP at +3.2%, but downward revisions are expected to lower this figure and this morning I am seeing estimates as low as +2.3%. Looking at Q1-2014, Credit Suisse cut its forecast to +1.6% while Morgan Stanley has lowered their forecast to +0.9%.

If there is any good news to be found it is in the hope that the poor sales data is entirely due to inclement weather rather than weak fundamentals. According to a Bloomberg report, December was the coldest since 2009 while January was the coldest in three years and brought four times the normal amount of snowfall. Anecdotally, even Austin, Texas (our home) has experienced a very cold winter. Sleet and freezing rain, or at least the threat of it, has shut down schools, government offices and some business on three separate occasions this year. The hope is that better weather in the months ahead will bring a sharp rebound.

CONGRESS SUSPENDS DEBT CEILING
On the bright side, the forecast for a winter storm was one factor that prompted lawmakers in Washington, D.C. to hurry up and pass a debt-ceiling bill. In somewhat of a surprise, Republicans in the House of Representatives advanced a bill to suspend the debt-ceiling for another year without any conditions. The Senate managed to overcome procedural moves by Senator Cruz to block its passage. The bill passed late yesterday and is expected to be signed into law by the President as soon as today. That eliminates the threat of another government shut-down or possible default, removing a key risk for financial markets and the economy as a whole.

U.S. equity markets are little changed on the day but up for the week, having already staged a strong rally following news of the debt-ceiling deal earlier in the week. Bond markets have rallied today, sending yields lower on the weak retail sales report. Expectations for Fed policy have not changed as the Fed is widely expected to continue tapering its asset purchase program, despite the recent string of weather related weakness. The Fed, and the rest of us for that matter, will likely have to wait a couple of months before we get a clear picture of the economy’s health outside of weather related influences.

MARKET INDICATIONS AS OF 11:17 A.M. CENTRAL TIME

DOW

UP 11 TO 15,976

NASDAQ

UP 17 TO 4,218

S&P 500

UP 3 to 1,822

1-Yr T-bill

current yield 0.11%; opening yield 0.11%

2-Yr T-note

current yield 0.32%; opening yield 0.34%

5-Yr T-note

current yield 1.50%; opening yield 1.56%

10-Yr T-note

current yield 2.74%; opening yield 2.76%

30-Yr T-bond

current yield 3.69%; opening yield 3.72%


PAYROLLS DISAPPOINT (AGAIN) ... BUT BAD WEATHER'S A FACTOR

Friday, February 7

NONFARM PAYROLLS WEAK, BUT UNEMPLOYMENT FALLS

The labor market report is always the most anticipated data release of any month, and today’s January employment report release is no exception. However, the numbers are highly suspect due to poor weather conditions across the nation, as well as the large post-holiday adjustment factor. According to CNBC, January weather for the entire U.S. was (arguably) the worst since 1977.

The Bureau of Labor Statistics (BLS) announced 113k new jobs were added to company payrolls in January, well below the +180k Bloomberg median forecast, and an increase from the (revised) 75k gain in December.

November payrolls were revised upward by 33k to +274k. Recall that the Fed made the decision to begin tapering after seeing the November jobs report. Since then, job growth has apparently slowed markedly. In October and November, payroll gains averaged +255k, but in December and January, the average was only +94k. Obviously, the recent drop in job creation has sparked discussion on the true health of the economy and exactly how aggressive the Fed should be in withdrawing stimulus.

Within the business survey, job growth was found in construction (+48k), business and professional services (+36k), leisure and hospitality (+24k) and manufacturing (+21k). Jobs in the healthcare field, a long standing area of growth, were flat in January. Declines were concentrated in government (-29k) and retail (-13k).

The unemployment rate, calculated from a separate household survey, showed unemployment dropping from 6.7% to 6.6%, due to estimated job growth of +638k and a +523k increase in the labor force. For those keeping score, the unemployment rate for adult men is now 6.2%, adult woman 5.9%, and teenagers 20.7%. In the past three months, a surprisingly robust 1.7 million jobs have been added in the lessor-watched survey. A divergence this wide is unusual and has added to the noise. The bottom line is, most experts aren’t placing a whole lot of emphasis on the past two months labor numbers.

There’s little point in running down all the minor numbers. The U6 rate, sometimes referred to as the underemployment rate, which includes everyone who would accept a full-time job if given the opportunity, fell from 13.1% to 12.7%. At its peak in April 2010, this number was 17.2%.

The January labor report also included the annual benchmark revision, which aligns payroll data with corporate tax records. This revision showed that payrolls had actually grown by an additional +347k from April 2012 to March 2013. The markets don’t care too much about stale numbers, but the revisions actually boosted average 2013 payroll growth up to +194k.

When the January numbers hit the tape, market reaction was harsh. DOW futures were down 188 points within minutes, but as analysts shifted through the data, market reaction turned around. At present, stock are up.  

Bond prices are generally flat …to UP. Given the ugly print, this is surprising.

At the end of the day, there is far too much uncertainty associated with the December and January reports to change market thinking. The Fed is still on course to continue its gradual tapering and is still unlikely to raise the overnight rate before late 2015.     

MARKET INDICATIONS AS OF 9:10 A.M. CENTRAL TIME

DOW

UP 54TO 15,682

NASDAQ

UP 28TO 4,085

S&P 500

UP 11 to 1,784

1-Yr T-bill

current yield 0.12%; opening yield 0.12%

2-Yr T-note

current yield 0.30%; opening yield 0.32%

5-Yr T-note

current yield 1.47%; opening yield 1.52%

10-Yr T-note

current yield 2.67%; opening yield 2.70%

30-Yr T-bond

current yield 3.66%; opening yield 3.67%


FEBRUARY OFF TO A POOR START

Monday, February 3, 2014


ISM MANUFACTURING INDEX TUMBLES
February did not get off to a good start. The ISM manufacturing index tumbled to 51.3 from 56.5 last month, reaching the lowest level since last May’s 50.0. The Bloomberg median forecast had called for a more modest decline to 56.0. Many of the sub-components within the index were weak too, with new orders falling from 64.4 to 51.2, production from 61.7 to 54.8, inventories from 50.5 to 44, employment from 55.8 to 52.3, and orders backlog from 51.5 to 48.0. The only component to rise was prices paid, which jumped from 53.5 to 60.5. The report suggests slowing growth in manufacturing and it appears that manufacturers and their customers are scaling back after a big buildup in inventories at the end of last year. You may recall that inventory accumulation was a major contributor to GDP growth in both the third and fourth quarters of 2013. The ISM noted that weather was one factor in the declines, but it’s not clear that weather could account for all of it.

Elsewhere, total vehicle sales declined in January to a 15.16 million unit annual pace, below forecasts for 15.7 million. GM and Ford blamed cold weather and winter storms for keeping customers out of showrooms.

STOCKS EXTEND LOSING STREAK
Stocks extended their recent skid with the S&P 500 losing 2.3%, closing at the lowest level since October, and reportedly breaking through a key technical support level. The DOW was off 326 points, led by a 4.1% decline in AT&T shares. Bonds are rallying on the soft economic data and a flight to safety trade. As the week progresses, investor focus will shift to Friday’s employment report. Recall that the December report, released in early January, showed an increase of just 74k jobs and kicked off the recent string of softer economic data. Let’s hope a better January report gets things back on the right track.

MARKET INDICATIONS AS OF 9:20 A.M. CENTRAL TIME

DOW

DOWN 326 TO 15,373

NASDAQ

DOWN 107 TO 3,997

S&P 500

DOWN 41 to 1,742

1-Yr T-bill

current yield 0.086%; opening yield 0.086%

2-Yr T-note

current yield 0.29%; opening yield 0.33%

5-Yr T-note

current yield 1.43%; opening yield 1.49%

10-Yr T-note

current yield 2.57%; opening yield 2.64%

30-Yr T-bond

current yield 3.52%; opening yield 3.60%


FED TAPERS BY ANOTHER $10 BILLION

Wednesday, January 29, 2014

FOMC STICKS TO PLAN

At the final FOMC meeting for Ben Bernanke, the policy making committee voted to taper by another $10 billion, meaning that monthly Fed purchases will now be $65 billion.

After an unexpectedly weak December employment report, a sharp reversal in December durable goods orders and a troubling sell-off in both the global and domestic equity markets, a number of analysts figured the Fed might opt to skip any January taper. However, with a Fed portfolio value likely to reach $4.5 trillion before year end, time isn’t a luxury. The Fed has to stop buying securities eventually. So, the weak December data can probably be attributed to the cold weather.

Interestingly, the U.S. bond market has rallied after the announcement. The 10-year yield is now at the lowest point since November 18th. A couple of possible reasons for this come to mind. The first is an obvious flight-to-quality with the stock market selling off almost 200 points. Another reason may be a vote of confidence in the new Fed.

As expected, the Fed maintained the overnight rate target at 0.00% to 0.25%. 

MARKET INDICATIONS AS OF 11:20 A.M. CENTRAL TIME

DOW

DOWN 200 to 15,729

NASDAQ

DOWN 49 to 4,079

S&P 500

DOWN 21 to 1,771

1-Yr T-bill

current yield 0.09%; opening yield 0.09%

2-Yr T-note

current yield 0.35%; opening yield 0.34%

5-Yr T-note

current yield 1.49%; opening yield 1.56%

10-Yr T-note

current yield 2.67%; opening yield 2.75%

30-Yr T-bond

current yield 3.61%; opening yield 3.67%

 


WEAK DURABLES ADDS UNCERTAINTY TO TOMORROW'S FOMC DECISION

Tuesday, January 28, 2014

DURABLE GOODS SLUMP IN DECEMBER

Orders for goods expected to last for three years or more, unexpectedly fell in December by the most in five months. The 4.3% drop in durable goods orders, which followed a 2.6% revised gain in November, was below the most pessimistic of 82 economists in the most recent Bloomberg survey. When the volatile transportation component is excluded, December orders fell by 1.6%, the biggest decline in nine months. Without going into more detail, suffice it to say, the report was weak. Bad weather was probably a contributing factor, but considering the poor December employment report and the fact that Fed officials are currently in the midst of the January FOMC meeting, it is no longer entirely certain that Fed officials will announce additional tapering tomorrow afternoon.

Compounding this decision is the recent drop in the global equity markets, which themselves are responding to problems in emerging markets …which are reacting negatively to expected Fed tapering. All three of the Fed’s quantitative easing programs should have benefited emerging markets. Record low U.S. bond yields encouraged many global investors to seek higher yielding investments in growth market economies. As it became clear that U.S. interest rates would be allowed to rise, the dollar gained strength and currencies of the smaller countries got hammered. A report last week showing a dip in Chinese manufacturing activity was the linchpin to the most recent crash.

Also this morning, the Conference Board’s measure of U.S. consumer confidence rose from 77.5 to 80.7. Because the survey period ended on January 16th, the recent stock market sell-off was not a consideration. 

HOUSING NUMBERS TRAIL-OFF AS YEAR CLOSES
Yesterday, the Commerce Department announced new home sales had fallen by 7% in December to a 414k annualized pace. The severity of the drop was unexpected. Some of the decline can probably be blamed on the coldest December in four years, but in all likelihood rising interest rates and higher home values played significant roles as well. Despite declining in the final two months, new home sales rose a huge 16.4% in 2013 to 428k (subject to revision.) The median price of a new home rose by 4.6% year-over-year to $270,200.

Existing home sales, released last week, appeared to be relatively solid in December. According to the National Association of Realtors, sales of previously owned home rose by 1% last month to a 4.87 million unit annual pace. Unfortunately, the increase was only made possible by a downward revision to the prior month. The sales pace declined by 10.6% during the July to November period, curtailing what had been shaping up as a banner year. Despite the drop-off, 5.1 million previously owned homes were sold in 2013, up 9.2% from 2012 and nearly 20% from 2011. When new and existing home sales are combined, 2013 sales of 5.52 million were the strongest since 2006. The big question is, how robust sales will be going forward if home prices and interest rates continue to climb?   

MARKET INDICATIONS AS OF 11:20 A.M. CENTRAL TIME

DOW

UP 67 TO 15,905

NASDAQ

DOWN 7 to 4,076

S&P 500

UP 1 to 1,788

1-Yr T-bill

current yield 0.10%; opening yield 0.11%

2-Yr T-note

current yield 0.34%; opening yield 0.34%

5-Yr T-note

current yield 1.57%; opening yield 1.57%

10-Yr T-note

current yield 2.76%; opening yield 2.75%

30-Yr T-bond

current yield 3.69%; opening yield 3.67%


DISAPPOINTING DECEMBER PAYROLLS COULD GIVE FED PAUSE


Friday, January 10, 2014

JOB CREATION UNEXPECTEDLY STALLS
No one saw this coming. In fact, after Wednesday’s stronger-than-expected ADP number, there was some upside bias to the median forecast for 197k new jobs.  The reality was that nonfarm payrolls grew by just 74k in December, which brought the 3-month average down from 193k to 172k. Needless to say, this is an ugly surprise.The Fed taper in December was predicated on a strengthening labor market. With the next FOMC  meeting scheduled for January 28-29, it isn’t clear that additional tapering will take place at that time. The Fed has promised that its “measured steps,” will be “data dependent” and this particular piece of critical data is weak.

 

Two of the sectors expected to contribute growth were government and construction, but government jobs fell by 13k and construction employment decreased by 16k. Health services fell by 6k after averaging +18k per month in 2013. Retail jobs increased by 55k, but these are typically less desirable and lower paying positions. Manufacturing jobs rose by 13k on the strength of the auto sector. Business and professional services rose by 19k, but the breakdown of this number showed an increase of 40k in temporary help and a decrease of 25k in accounting and bookkeeping services.                 

 

In the separate household survey the official unemployment rate fell from 7.0% to 6.7%. There was an increase of +143k newly employed workers, but another 525k exited the labor force dragging the participation rate back down to a 35-year low of 62.8%  Weather played a role here as the BLS reported 273k Americans were unable to work due to bad weather, the most in 36 years.  

 

Most of the minor numbers were also weak. The average workweek fell, and average hourly earnings rose by just 0.1%, bringing year-over-year wage gains down from +2.0% to +1.8%.

 

It’s hard to figure out exactly what this report should be telling us. The talking heads caution that there are frequently significant seasonal distortions in the December data, and the weather certainly played a role. It’s always possible that future revisions provide a completely different picture than we’re seeing this morning. Stay tuned. On the other hand, the Fed is watching employment carefully, and today’s numbers were entirely unexpected. The bottom line is that what we all thought to be certain, isn’t as certain as it was.     

The DOW was up …and it’s now down. A bad employment report isn’t necessarily bad for stocks since in theory, the Fed is likely to be more accommodative for a longer period than we’d thought …just yesterday. Bond yields are lower for the same reason.


MARKET INDICATIONS AS OF 9:20 A.M. CENTRAL TIME

DOW

DOWN 39 to 16,405

NASDAQ

DOWN 7 to 4,149

S&P 500

UP 1 to 1,839

1-Yr T-bill

current yield 0.12%; opening yield 0.13%

2-Yr T-note

current yield 0.38%; opening yield 0.43%

5-Yr T-note

current yield 1.64%; opening yield 1.75%

10-Yr T-note

current yield 2.88%; opening yield 2.97%

30-Yr T-bond

current yield 3.82%; opening yield 3.88%


2014: OFF AND RUNNING

Friday, January 3, 2014

LOOKING AHEAD TO A NEW YEAR

2014 begins with quite a bit more optimism than 2013.  Last year at this time, the U.S. had just stepped away from the “fiscal cliff,” with a great deal of fiscal belt-tightening ahead. Most economists expected economic growth would suffer accordingly, and in the first half of the year, it did exactly that. However, the economy made great strides in the second half, and is now poised for what most expect will be a better overall year in 2014. Much of the rebound was consumer-driven, and the consumer’s ability to spend was fueled by increases in net worth, which can be largely attributed to increases in both home prices and stock values. U.S. stocks had their best year since 1995. The NASDAQ index rose over 40% for the year, while the S&P 500 was up nearly 30% to 1,848. The DOW rose 26.5% in 2013 and reached its 52nd record high on December 31st, finishing the year at 16,445. The equity outlook for 2014 is cautiously optimistic. The average 2014 year-end forecast for the S&P 500 from 10 major Wall Street investment banks was 1,952, an increase of 5.6% (MarketWatch).

 

THE FACTORY AND HOUSING OUTLOOK IS BRIGHT

There wasn’t too much data released during the abbreviated holiday week. One piece of data worth mentioning is the ISM manufacturing index. The 57.0 December reading was the second highest since April 2011, trailing only the 57.3 from the previous month. Any number above 50 is consistent with expansion in the factory sector. Another important number was the October S&P Case-Shiller 20-city home price index, which showed a better-than-expected 13.6% year-over-year price increase. This indicates a healthy housing market, and most analysts expect further increases in residential construction in the new year as home inventory levels are relatively lean.  

  

Strong economic data would presumably cause the Fed to taper back on asset purchases at a quicker pace, which in theory would push market yields higher in anticipation. Interestingly, as the U.S. contemplates the winding down of its quantitative easing program, Japan is charging forward. The Bank of Japan announced yesterday that it would continue its enormous asset purchase plan as long as it takes to drive inflation up to 2.0%. By the end of this year, the Japanese Central Bank portfolio is projected to grow to 54% of GDP, equivalent to a Fed balance sheet of around $9 trillion. For the time being, this is highly supportive for the Japanese stock market, which enjoyed an eye-popping 60% gain in 2013.


MARKET INDICATIONS AS OF 2:25 P.M. CENTRAL TIME

DOW

UP 71 to 16,512

NASDAQ

DOWN 1 to 4,142

S&P 500

UP 5 to 1,831

1-Yr T-bill

current yield 0.11%; opening yield 0.11%

2-Yr T-note

current yield 0.40%; opening yield 0.38%

5-Yr T-note

current yield 1.73%; opening yield 1.72%

10-Yr T-note

current yield 2.99%; opening yield 2.99%

30-Yr T-bond

current yield 3.93%; opening yield 3.92%



HOUSING CONTINUES TO MEND IN FRONT OF FOMC ANNOUNCEMENT


Wednesday, December 18, 2013

The FOMC will release its Official Statement at 1:00 (Central) this afternoon. It is widely expected that they will further clarify their intent to taper asset purchases, so there is a possibility of significant financial market movement …one way or another, following the announcement.  The markets seem jittery in front of the Fed release. At the very least, Fed officials are likely to acknowledge recent strengthening of economic data. This type of statement would suggest less accommodation is required.  

HOUSING STARTS SHOW UNEXPECTED STRENGTH    

This morning, housing starts rose to their highest level in nearly six years, increasing by 22.7% to a 1.09 million annualized pace in November, well above the 955k median forecast. The single month gain was the biggest since January 1990.

 

In April 2009, in the midst of the recession, annualized starts bottomed out at a 478k pace. In early 2006, at the housing bubble peak, starts had soared to a 2.276 million unit pace.    

 

Single family permits jumped 20.8% in November to the highest level in 5½ years, while multi-family starts rose 26.8%. In recent years, the population has been shifting into multi-unit dwellings. This trend seems to be slowing.  By contrast, building permits declined 3.1% to a 1007k annualized pace. This is still a brisk pace for permits, which are a more forward looking indicator.

 

The stronger housing data defies higher mortgage lending rates. A number of economists have speculated higher borrowing costs would crimp demand. After reaching the 2013 low point of 3.59% in early May, the Mortgage Bankers Association (MBA) 30-year mortgage rate index climbed to a 4.80% average in early September, and recently averaged 4.62% for the week ending December 13th.  A 100 basis point increase on a $150,000 loan adds less than $100 to the monthly payment, which apparently isn’t fazing borrowers one bit.             


FANNIE AND FREDDIE TO RAISE FEES

Fannie Mae and Freddie Mac announced yesterday they expect to increase certain fees beginning in March. Specifically, borrowers who do not make at least a 20% down payment and/or have credit scores below 680 would pay a guarantee fee averaging about 11 bps higher. If this plan is implemented next year, owning a home would become a little less affordable for some, but a strengthening economy that creates much needed jobs would be an effective counter.         

 

The Federal Housing Finance Authority (FHFA), Fannie and Freddie’s regulator, also announced that it planned to lower the conforming loan limit from $417,000 to $400,000. This change would not take effect until October.

MARKET INDICATIONS AS OF 11:10 A.M. CENTRAL TIME

DOW

UP 24 to 15,890

NASDAQ

DOWN 16 to 4,007

S&P 500

DOWN 2 to 1,779

1-Yr T-bill

current yield 0.13%; opening yield 0.13%

2-Yr T-note

current yield 0.35%; opening yield 0.32%

5-Yr T-note

current yield 1.56%; opening yield 1.50%

10-Yr T-note

current yield 2.89%; opening yield 2.84%

30-Yr T-bond

current yield 3.91%; opening yield 3.87%


FED TAPERS ... A LITTLE BIT - STOCKS RALLY

 
Thursday, December 18, 2013

SOME SURPRISES
The FOMC announced the beginning of the much-anticipated taper of its $85 billion monthly asset purchase program this afternoon. A few weeks ago, this would have been a huge surprise, as a majority believed the taper wouldn’t begin until Janet Yellen’s first meeting as Fed Chair in March. A flurry of strong data, including significant payroll gains, have altered the course.

The taper plan is for a reduction of just $10 billion per month effective January 1st, split evenly between Treasury and MBS purchases. In the future, reductions will likely come in “measured steps."  This suggests a very gradual tapering process.

“The Committee also anticipates, based on its assessment of these factors, that it likely will be appropriate to maintain the current target range for the federal funds rate well past the time that the unemployment rate declines below 6.50% percent, especially if projected inflation continues to run below the Committee's 2 percent longer-run goal.” This statement reaffirms that the Fed expects to hold the overnight funds target low for a considerable period.

Bond prices are higher along with stocks. Although the tapering has begun, it appears the Fed will remain very accommodative for some time.

MARKET INDICATIONS AS OF 1:20 P.M. CENTRAL TIME

DOW
UP 150 TO 16,025
NASDAQ
UP 8 TO 4,032
S&P 500
UP 13 TO 1,794
1-Yr T-bill
current yield 0.13%; opening yield 0.13%
2-Yr T-note
current yield 0.33%; opening yield 0.32%
5-Yr T-note
current yield 1.49%; opening yield 1.50%
10-Yr T-note
current yield 2.83%; opening yield 2.84%
30-Yr T-bond
current yield 3.85%; opening yield 3.87%

 


YIELDS DRIFT HIGHER ON SOLID RETAIL SALES DATA

 
Thursday, December 12, 2013
 
Q4 CONSUMER SPENDING MUCH IMPROVED
The consumer’s contribution to GDP in the third quarter was the smallest in four years. So far this quarter, the U.S. consumer is spending at a surprisingly improved pace. The reasons behind this are legitimate given deeply discounted holiday sales pricing, lower gasoline prices, record stock market gains, improved labor conditions and rising home values. Retail sales surged +0.7% in November, topping the +0.6% median forecast estimate. The lion’s share of the November increase came from autos and building materials. Retail sales in October, which were already solid, were revised upward from +0.4% to +0.6%.   
 
Sales, excluding auto dealers, gasoline, food services and hardware stores (the number used for the actual GDP calculation) rose by +0.5%. This gain followed +0.7% growth in the previous month, which was the biggest increase in this important category since July 2012.
 
This morning’s report fits the economic improvement trend that has asserted itself over the past couple of months, and suggests to some that the Fed could begin tapering before the March FOMC meeting. This thought has caused bond yields to drift higher in anticipation.
 
In other news, weekly jobless claims, which had fallen below the 300k mark two weeks ago for only the second time in 6½ years, snapped back in the week ending December 7th, from a (revised) 300k to 368k. Analysts cautioned that seasonal adjustments related to the Thanksgiving holiday had distorted first-time unemployment filings, and suggested the 4-week moving average of 329k was a more accurate assessment.
 
Bond yields are higher in early trading, while stocks are generally down.           
 
MARKET INDICATIONS AS OF 10:00 A.M. CENTRAL TIME
DOW
DOWN 68 to 15,774
NASDAQ
UP 7 to 4,010
S&P 500
DOWN 3 to 1,771
1-Yr T-bill
current yield 0.14%; opening yield 0.13%
2-Yr T-note
current yield 0.33%; opening yield 0.31%
5-Yr T-note
current yield 1.54%; opening yield 1.50%
10-Yr T-note
current yield 2.88%; opening yield 2.85%
30-Yr T-bond
current yield 3.89%; opening yield 3.89%
 

A STRONG LABOR REPORT DRIVES STOCKS HIGHER; BONDS LITTLE CHANGED

Friday, December 6, 2013

JOB GAINS FIND CONSISTENCY AT RESPECTABLE LEVELS
U.S. companies added 203k workers to payrolls in November, and revisions added another 8k to the previous two months. The Bloomberg median forecast had called for 185k new jobs in November. For all of 2013, nonfarm payrolls have increased by an average 189k. By comparison, payroll gains averaged 183k and 175k in the previous two years.  

 

November job gains were concentrated in transportation and warehousing (+31k), healthcare (+30k), manufacturing (+27k), retail (+22k), food services and drinking establishments (+18k) and construction (+17k).  State and local governments hired 14k workers during the month, while the federal government shed another 7k. One wrinkle this time of year is accurately measuring the impact of temporary retail workers. This number totaled +471k.   

The unemployment rate, calculated from a separate survey of U.S. households, fell from 7.3% to 7.0%, the lowest in five years. There are 10.9 million officially unemployed. The number who have been unemployed for 27 weeks or more, at 4.1 million, accounted for 37.3% of the total, but has fallen by 718k over the past year.

The number of people officially in the labor force actually increased by 455k in November, after a drop of 720k in October. This drove the participation rate up from a 35-year low of 62.8 to 63.0. The household survey showed an increase of 818k jobs in November, after a decline of 735k in the previous month. The huge volatility reflects federal employees being furloughed in October and then going back to work.

Digging a bit deeper into the November data shows the number of involuntary part-time workers fell 331k to 7.7 million. The number of workers considered “marginally attached” to the labor force (meaning they were available to work, had looked in the past 12 months, but had not actively searched in the 4 weeks leading up to the survey) totaled 2.1 million, down by 409k from a year earlier. Among the marginally attached, there were 762k discouraged workers, 217k less than last year at this time.

Average hourly earnings increased by $0.05 to $24.15, but year-over-year earnings growth fell from 2.2% to 2.0%. The average workweek rose by 0.1 to 34.5, while total hours worked rose by 0.5%.

The bond market reaction is unusual. The post-number chatter is that the Fed may be more likely to announce tapering at the January meeting, but so far bond yields aren’t validating this opinion. Yields are generally flat, with the 7-year Treasury unchanged and the 10- and 30-year Treasury yields actually down from opening levels. Stocks are rallying big in early trading, choosing to focus on economic strength rather than the possibility that the Fed will withdraw stimulus.       

MARKET INDICATIONS AS OF 9:00 A.M. CENTRAL TIME
 
DOW
UP 136 TO 15,958
NASDAQ
UP 29 TO 4,062
S&P 500
UP 14 TO 1,799
1-Yr T-bill
current yield 0.12%; opening yield 0.12%
2-Yr T-note
current yield 0.30%; opening yield 0.30%
5-Yr T-note
current yield 1.49%; opening yield 1.49%
10-Yr T-note
current yield 2.86%; opening yield 2.87%
30-Yr T-bond
current yield 3.90%; opening yield 3.91%


Wednesday, December 5, 2013

 
HEADLINE GDP RISES AS BUSINESS INVENTORIES JUMP
Economic growth was revised upward this morning as third quarter GDP was unexpectedly boosted from 2.8% to 3.6%. The average annualized economic growth rate in the U.S. over the past seven decades is just over 3%, so 3.6% is a pleasant surprise. However, economists are cautioning that inventory build-up was unusually high, accounting for 1.68 percentage points. This surprising contribution doubles the advance estimate and accounts for the entire upward revision. Final sales (which exclude inventories) was actually revised downward from +2.0% to 1.9%.  FTN analysts pointed out that “In the past decade, any time the ratio of GDP to final sales was as high as it was in the third quarter, inventory cuts followed.”
 
There have been plenty of strong numbers released during the past month, but last quarter’s GDP isn’t one of them. However, the weekly initial claims number could arguably fall into the strong category. First-time filings for unemployment benefits declined from 321k to 298k during the last week in November. This is only the second time in the past 340 weeks that claims have fallen below the 300k mark. Apparently, holidays make claims calculations tricky, but this is still another indication that employment conditions are firming. And employment is the foundation to sustainable recovery.
 
Longer bond yields rose early this morning, but are settling down as it becomes clear that third quarter GDP borrowed heavily from future periods. Stocks are in the process of falling for the fifth straight day from record highs, although in all fairness, the declines have been very limited so far.
 
The economic temperature is warming. Economists are generally predicting improvement in 2014 relative to 2013. This will allow for QE3 tapering to begin at a gradual pace sometime within the next four to five months. In theory, this suggests higher interest rates on the longer end of the curve. However, rates on the extreme short end will likely remain anchored, along with the overnight funds target, until mid-2015.   
 
Employment report tomorrow.             

MARKET INDICATIONS AS OF 10:05 A.M. CENTRAL TIME
 
DOW
DOWN 58 from 15,831
NASDAQ
DOWN 6 from 4,031
S&P 500
DOWN 6 to 1,786
1-Yr T-bill
current yield 0.12%; opening yield 0.12%
2-Yr T-note
current yield 0.30%; opening yield 0.29%
5-Yr T-note
current yield 1.47%; opening yield 1.44%
10-Yr T-note
current yield 2.86%; opening yield 2.83%
30-Yr T-bond
current yield 3.91%; opening yield 3.90%
 

MARKET YIELDS CREEP HIGHER ON SOLID DATA
 
Wednesday, December 4, 2013
 
NEW HOME SALES REBOUND
Sales of new homes rose by 25.4% from a 354k annualized pace in September to a 444k pace in October. Several news stories this morning heralded the biggest monthly gain in three decades. And while this appears to be true, sales were at higher levels as recently as June. Higher mortgage rates and the recent government shutdown were factors that drove sales temporarily lower in late summer and early fall.  Total sales for 2013 are currently on a 426k pace, well above the 368k pace of 2012. The median sales price fell by 4.5% to $245,800 in October, with 12% of new homes selling for more than $500,000.     
 
The October rebound has chipped away at new home inventory levels, bringing the available supply down from 6.4 to 4.9 months. Bloomberg reported that the median number of months between completion and sale, at 2.6 months, is the lowest on record.
 
All in all, the resiliency in the housing market is encouraging. It suggests that slightly higher interest rates will not significantly harm economic growth.     
 
THE SERVICE SECTOR ISN’T AS STRONG AS THE FATORY SECTOR  
The non-manufacturing (service sector) ISM, also released this morning, wasn’t quite so encouraging. The composite index unexpectedly slipped from 55.4 to 53.9 in October. Although still in expansion territory, the decline was in contrast to the healthier ISM manufacturing index released on Monday. The employment component of the service sector index dropped from 56.2 to 52.5, suggesting a bit of downward bias to Friday’s much anticipated November employment report.
 
Stocks were down in early trading as the stronger housing data hinted that the Fed would be tapering sooner, but optimism that congressional leaders could actually strike a budget compromise in the coming weeks has reversed the slide.
 
Bond prices are down a bit, pushing yields on the long end slightly higher. The move is in anticipation that stronger economic data will allow the Fed to cut back on its asset purchases beginning in the first quarter of 2014. The final FOMC meeting of the year is scheduled for December 17-18, although no change in Fed policy is expected at that time.  
 
MARKET INDICATIONS AS OF 10:30 A.M. CENTRAL TIME
DOW
UP 5 to 15,919
NASDAQ
UP 4 to 4,041
S&P 500
UP 1 to 1,796
1-Yr T-bill
current yield 0.12%; opening yield 0.12%
2-Yr T-note
current yield 0.29%; opening yield 0.29%
5-Yr T-note
current yield 1.45%; opening yield 1.40%
10-Yr T-note
current yield 2.84%; opening yield 2.78%
30-Yr T-bond
current yield 3.90%; opening yield 3.85%
 

GOOD NEWS - ISM MANUFACTURING INDEX SIGNALS STRENGTH
 
Monday, December 2, 2013
 
U.S. FACTORY MANAGERS ARE OPTIMISTIC
The ISM composite factory index unexpectedly rose to its highest level in 31 months, increasing from 56.4 to 57.3 in November. The Bloomberg median forecast had suggested a slight decrease to 55.1, but after reaching a post-recession low of 49 in May, the index has now risen in each of the last six months. Recall that in this series, any number above 50 indicates factory expansion.
 
Following the release, Morgan Stanley analysts pointed out that “a 57.3 ISM reading has historically been accompanied by strong growth in the overall economy, and a rebound as large as 8.3 points over a six-month period has been strongly associated with a meaningful inflection in the growth trajectory for the overall economy. Several economists have credited recent improvement in China and Europe as a foundation for the upbeat U.S. factory readings and expect the positive trend to continue.”      

Within the November survey, the new orders index increased by 3 percentage points to 63.6%, while the production index rose by 2 to 62.8%. But possibly the survey’s most important indicator was the employment index which increased by 3.3 percentage points to 56.5 percent, the highest level in 18 months.  
 
The prospect of better economic growth ahead suggests that the Fed may not have to be quite as accommodative with its monetary policy. Although the strong November ISM data is hardly a game changer, it does support an earlier QE3 tapering case. As a result, bond yields are backing up in anticipation with the 10-year Treasury note moving from 2.75% to 2.80%.  
 
This week is chock-full of economic data, with the ISM non-manufacturing survey, auto sales, new home sales and Q3 GDP, to be followed by the always important monthly employment report. The tone seems to be positive, and the economic numbers on the near horizon are likely to be enhanced with the political shenanigans of October resolved for the time being.         
 
MARKET INDICATIONS AS OF 11:00 A.M. CENTRAL TIME
DOW
DOWN 1 to 16,086
NASDAQ
DOWN 1 to 4,058
S&P 500
UP 1 to 1,807
1-Yr T-bill
current yield 0.12%; opening yield 0.12%
2-Yr T-note
current yield 0.29%; opening yield 0.28%
5-Yr T-note
current yield 1.43%; opening yield 1.37%
10-Yr T-note
current yield 2.80%; opening yield 2.75%
30-Yr T-bond
current yield 3.86%; opening yield 3.81%
 

GOVERNMENT SHUTDOWN DIDN'T AFFECT SHOPPERS
 
November 20, 2013
 
RETAIL SALES PROVE RESILIENT IN OCTOBER
There were several important economic data releases this morning, starting with an important measure of consumer spending. The October retail sales report was considerably better than expected, with the headline number rising 0.4%, well above the 0.1% median Bloomberg forecast. Analysts seemed to be excited about the biggest monthly increase in four months happening despite October’s Federal government shutdown. However, a case can be made that government workers were on a paid vacation during those 16 days and had extra shopping time. Other reasons for the better sales numbers include lower gasoline prices and the “wealth effect” created by record stock prices and increasing home valuations. With all of the positives, it seems more surprising that the monthly retail sales number wasn’t stronger.
    
CONSUMER PRICES CONTINUE TO RETREAT    
The consumer price index (CPI) actually fell by 0.1% during the month of October, and is now increasing at a benign 1.0% annual rate, the lowest in four years. A good portion of the decline can be attributed to the drop in gasoline prices, which are down 10% from a year ago.  Another falling component was the cost of monthly housing, which declined to a 10-month low. When volatile food and energy prices are removed from the equation, core CPI rose by just 0.1% in October and is up 1.7% year-over-year. The bottom line on inflation is that the Fed needs inflation to stay low in order to continue its accommodative interest rate policy. Nearly all price measures seemed to be well contained. Thus, no worries for the Fed. 
       
HOME SALES FALL AMID LIGHT SUPPLY    
Existing home sales fell by a larger than expected 3.2% in October to an annualized rate of 5.12 million units. On a year-over-year basis, the average price for an existing home increased by 12.8% to $199,500.  There were 2.13 million existing homes listed for sale in October, down from 2.17 million in the previous month. The month’s supply at the current sales pace was a relatively lean 5.0 months, up slightly from 4.9 in September. Some real estate agents feel the lack of market supply is restraining sales. The housing outlook remains positive despite higher mortgage rates.   
 
The bond market hasn’t moved much from opening levels. Any upward movement in yields that may have resulted from the better retail sales was nullified by the benign inflation readings, and frankly, the housing number was close enough to expectations to be a non-event. Stock prices are up again this morning.   
 
MARKET INDICATIONS AS OF 11:10 A.M. CENTRAL TIME
DOW
UP 23 to 15,990 (NEW RECORD HIGH)
NASDAQ
UP 17 to 3,948
S&P 500
UP 3 to 1,791
1-Yr T-bill
current yield 0.12%; opening yield 0.13%
2-Yr T-note
current yield 0.28%; opening yield 0.29%
5-Yr T-note
current yield 1.33%; opening yield 1.35%
10-Yr T-note
current yield 2.71%; opening yield 2.71%
30-Yr T-bond
current yield 3.81%; opening yield 3.80%
 
 

NOVEMBER 2013 BLOOMBERG INTEREST RATE AND CONOMIC SURVEYS
 
Tuesday, November 18, 2013
 
From November 8 to November 13, 2013, Bloomberg News surveyed approximately 70 of the nation’s top economists for their most recent opinions on the U.S. economy and interest rates. The following are the results of their responses:
 
The Interest Rate Forecast
 
Overnight Fed Funds - The MEDIAN fed funds forecast for Q4 2013 is 0.25%. The MEDIAN forecast for the next six quarters are 0.25%, 0.25%, 0.25%, 0.25%, 0.25% and 0.25%. The current fed funds target rate is a range between 0.00% and 0.25%.
 
The confirmation hearing of Janet Yellen in front of the Senate Banking Committee went as well as could be expected. She is likely to be approved by vote of the full Senate this week, and would begin her first four-year term as Fed Chairman immediately after Bernanke’s term ends at the end of January 2014. Yellen adheres to the same general principles as Bernanke, and in fact, may be even more accommodative in terms of monetary policy. The initial FOMC meeting for Yellen as the Fed leader is March 18-19.  This is when most now expect the Committee to announce the first step in what is likely to be a gradual QE3 tapering process. The overnight fed funds target, which has been anchored at 0.00% to 0.25% since December 2008, is unlikely to be increased until QE3 is fully extinguished. Most experts now see the overnight funds target remaining at record lows at least until mid-2015, perhaps later.    
 
2-year Treasury-note - The average 2-year yield forecast for Q4 2013 is 0.40%. The average yield forecast for the next six quarters are 0.48%, 0.60%, 0.74%, 0.90%, 0.99% and 1.15%. The current 2-yr Treasury yield is 0.28%.
 
 
Q4 2013
Q1 2014
Q2 2014
Q3 2014
Q4 2014
Q1 2015
Q2 2015
Current Survey
(November 2013)
0.40%
0.48%
0.60%
0.74%
0.90%
0.99%
1.15%
Prior Survey
(October 2013)
0.42%
0.51%
0.60%
0.74%
0.87%
0.89%
1.03%
One Year Prior
(November 2012)
0.50%
0.55%
0.65%
N/A
N/A
N/A
N/A
 
10-year Treasury-note - The average 10-year yield forecast for Q4 2013 is 2.73%. The average forecast for the next six quarters are 2.89%, 3.04%, 3.20%, 3.36%, 3.43% and 3.59%.  The current 10-year yield is 2.68%.
 
Q4 2013
Q1 2014
Q2 2014
Q3 2014
Q4 2014
Q1 2015
Q2 2015
Current Survey
(November 2013)
2.73%
2.89%
3.04%
3.20%
3.36%
3.43%
3.59%
Prior Survey
(October 2013)
2.82%
2.95%
3.08%
3.22%
3.24%
3.33%
3.39%
One Year Prior
(November 2012)
2.27%
2.43%
2.59%
N/A
N/A
N/A
N/A
 
30-year Treasury-bond - The average 30-year yield forecast for Q4 2013 is 3.78%. The average forecast for the next six quarters are 3.92%, 4.04%, 4.15%, 4.26%, 4.31% and 4.47%. The current 30-year yield is 3.77%.
 
Q4 2013
Q1 2014
Q2 2014
Q3 2014
Q4 2014
Q1 2015
Q2 2015
Current Survey
(November 2013)
3.78%
3.92%
4.04%
4.15%
4.26%
4.31%
4.47%
Prior Survey
(October 2013)
3.82%
3.95%
4.06%
4.18%
4.26%
4.28%
4.40%
One Year Prior
(November 2012)
3.36%
3.54%
3.66%
N/A
N/A
N/A
N/A
 
 
The Economic Forecast
 
Unemployment Rate - The median forecast for Q4 2013 unemployment is 7.2%. The median forecast for the next five quarters are 7.1%, 6.9%, 6.8%, 6.6% and 6.5%.
 
The household survey of the October employment report was negatively affected by the government shutdown, although not as much as many had thought. In the most recent survey, furloughed government workers were considered to be unemployed. As a result, there were 735k job losses measured during the month and the unemployment rate climbed from 7.2% to 7.3%. The increase would have been more dramatic if another 720,000 Americans hadn’t inexplicably exited the labor force in October, bringing the participation rate from 63.2% to a new 35-year low of 62.8%.       
 
Real GDP (annualized economic growth) - The median GDP growth forecast for Q4 2013 is +1.85.  The median forecast for the next five quarters are +2.6%, +2.85, +2.9%, +2.9% and +3.0%.
 
Although the +2.8% headline third quarter GDP increase was much better than the Bloomberg median forecast of +2.0%, the breakdown suggests a weaker number. In particular, the inventory component added 0.86% to the headline. In theory, if future sales aren’t as brisk as anticipated, the inventory contribution could be less or even negative in subsequent quarters. Personal consumption, the most important contributor to GDP, rose by a disappointing 1.5%. For the first three quarters of the year, the economy has now grown at a 2.2% annualized rate, not bad considering the government cutbacks that have taken place, but still well below the 3.2% GDP average over the last seven decades. Part of the slower growth may be that consumers are saving more, as the savings rate rose from 4.5% to 4.7% during the quarter. Many economists believe consumers are in much better position to spend in the coming months as a result of the deleveraging that has taken place over the past four years - The level of household liabilities to disposable income, which peaked at a record 1.35 in December 2007, has shrunk to 1.09 at last measure. However, it’s possible that today’s consumers are more cautious, and like businesses, have adjusted to leaner overhead, which might suggest more moderate spending in the coming years.     
  
Consumer Prices - The median annualized consumer inflation forecast for Q4 2013 is +1.5%. The median forecast for the next five quarters are +1.55%, +2.0%, +1.9%, +2.0% and 2.1%. 
 
The Personal Consumption Expenditures (PCE) deflator, which is considered the Fed’s favorite inflation measure, climbed by just 0.1% in both the overall and core measures in October, pushing the year-over-year numbers down to 0.9% and 1.2% respectively. Ideally, the Fed would prefer to see price pressure at around 2%. Thus, there is still plenty of latitude for the Fed to continue being accommodative.  Right now, inflation across virtually all measures seems to be very well contained.  

MARKET INDICATIONS AS OF 3:30 P.M. CENTRAL TIME
DOW
UP 14 to 15,976
NASDAQ
DOWN 37 to 3,949
S&P 500
DOWN 7 to 1,791
1-Yr T-bill
current yield 0.13%; opening yield 0.12%
2-Yr T-note
current yield 0.28%; opening yield 0.29%
5-Yr T-note
current yield 1.31%; opening yield 1.34%
10-Yr T-note
current yield 2.67%; opening yield 2.70%
30-Yr T-bond
current yield 3.76%; opening yield 3.80%
 

UNEXPECTED LABOR STRENGTH IN OCTOBER STUMPS ANALYSTS
 
Friday, November 8, 2013
 
BUSINESSES SHAKE OFF UNCERTAINTY AND HIRE NEW WORKERS
It’s rare when the economists agree, and for the most part they were all anticipating an ugly employment number for the month of October. After all, during the survey week, the Federal government was closed and there was a threat (albeit minor) of a technical default on U.S. debt. As it turned out, U.S. businesses decided to hire in October anyway, and surprisingly, the number of jobs created exceeded all forecasts. Bloomberg survey estimates of nonfarm payrolls ranged from +50k to +175k, and the median forecast was +120k. The actual number was +204k, and revisions to the two previous months added another +60k.
 
Just like that, the picture has shifted again. Before this morning, company payrolls were thought to be averaging a sub-par 144k over the most recent three-month period. The latest numbers boosted the three-month average up over 200k, and the 2013 monthly average to 186k.   
 
Job growth was concentrated in the (low paying) leisure and hospitality sector (+53k), the (low paying) retail sector (+44k), professional and technical services (+21k), the factory sector (+19k) and health care (+15k).   
 
It wasn’t clear before the release, but in the business survey furloughed government workers were considered to be employed, so the company payroll numbers are probably clean. The unemployment data, which is calculated through a household survey, is distorted. In this survey, furloughed workers were considered to be unemployed. As a result, there were 735k job losses measured during the month, and the unemployment rate climbed from 7.2% to 7.3%.
 
The increase would have been more dramatic if the participation rate hadn’t fallen so much. In fact, it’s shocking to realize that the percentage of working-age Americans currently employed or considered to be looking for work, dropped even further from a 35-year low of 63.2% to 62.8% as another 720,000 Americans exited the labor force. According to the Bureau of Labor Statistics, September marked the first time in history that more than 90 million Americans in ages ranging from 16 to 64, fell outside the labor force.
 
The markets aren’t entirely sure what to make of the October report. Bond prices have traded off (prices down/yields up) with the thought that QE tapering could potentially begin before March 2014, while equities are up in early trading under the belief that the economy is stronger than previously thought. Of course, stocks could have just as easily dropped for the same reasons that bonds have traded off. Mark Zandi of Moody’s described the payroll growth this morning as “bizarre,” although some of the other talking heads on CNBC seemed to accept it based on the notion that the economy “is simply in better shape than we’re giving it credit for.”
 
Take all of this with a grain of salt (…and let me know if you have a less worn cliché for future writings). The labor market is not in good shape, regardless of the occasionally upbeat monthly reports. And for the most part, consumers only spend money when they have a source of income.                        

MARKET INDICATIONS AS OF 9:10 A.M. CENTRAL TIME
DOW
UP 37 to 15,630
NASDAQ
UP 29 to 3,886
S&P 500
UP 3 to 1,750
1-Yr T-bill
current yield 0.11%; opening yield 0.10%
2-Yr T-note
current yield 0.31%; opening yield 0.28%
5-Yr T-note
current yield 1.42%; opening yield 1.30%
10-Yr T-note
current yield 2.74%; opening yield 2.60%
30-Yr T-bond
current yield 3.83%; opening yield 3.71%
 

UPBEAT HEADLINE GDP MASKS UNDERLYING WEAKNESS
 
Thursday, November 7, 2013
 
GDP NOT QUITE AS IMPRESSIVE AS IT APPEARS
This morning, the initial reading of the third quarter GDP was released. The headline increase at +2.8% was much better than the Bloomberg median forecast of +2.0%, but the breakdown suggests an even weaker number. In particular, the inventory component added a whopping 0.86% to the headline. If future sales aren’t as brisk as anticipated, the inventory contribution would be less, or even negative, in subsequent quarters. Personal consumption, the most important contributor to GDP, rose by a disappointing 1.5%. For the first three quarters of the year, the U.S. economy has grown at a 2.2% annualized rate, not bad considering the government cutbacks that have taken place, but still well below the 3.2% GDP average over the last seven decades. Part of the slower growth may be that consumers are saving more, as the savings rate rose from 4.5% to 4.7% during the quarter.
 
Many economists believe consumers are in much better position to spend in the coming months as a result of the deleveraging that has taken place over the past five years - The level of household liabilities to disposable income, which peaked at a record 1.35 in December 2007, has shrunk to 1.09 at last measure. However, it’s possible that today’s consumers are more cautious, and like U.S. businesses, have adjusted to leaner overhead, which might suggest a more moderate level of spending in the coming years. 
    
On Friday, the October employment report will be released. The market is already bracing itself for an ugly number. However, the data is expected to be tainted by the 16-day government shutdown, and should be taken with a grain of salt. The unemployment rate is forecasted to jump from 7.2% to 7.4%, while payroll gains are expected to be around 120k, well below the 177k average gain so far in 2013.
 
THE ISM SURVEYS PAINT A ROSIER PICTURE
Yesterday, the ISM non-manufacturing index for October rose from 54.3 to 55.4. The report was quite strong, easily topping the Bloomberg median forecast of 54.0. The non-manufacturing, or service sector index, represents roughly 90% of all jobs in the U.S., so an upbeat reading was an unexpected surprise, suggesting a stronger economic outlook. Last week, the ISM manufacturing index also surprised to the upside, climbing from 56.2 to 56.4. Recall that any number above the 50 mark indicates expansion. Most experts are anticipating that the government shutdown and latest debt ceiling debacle will have a measurable negative effect on the economy in the final quarter of the year, but these two private sector surveys suggest the effect may be minimal.
 
None of this a data will any prompt any change in Fed policy.   

MARKET INDICATIONS AS OF 9:30 A.M. CENTRAL TIME
DOW
DOWN 9 to 15,737
NASDAQ
DOWN 38 to 3,899
S&P 500
DOWN 5 to 1,766
1-Yr T-bill
current yield 0.09%; opening yield 0.09%
2-Yr T-note
current yield 0.28%; opening yield 0.28%
5-Yr T-note
current yield 1.31%; opening yield 1.33%
10-Yr T-note
current yield 2.63%; opening yield 2.64%
30-Yr T-bond
current yield 3.75%; opening yield 3.77%
 

WEAK RETAIL SALES IN FRONT OF OCTOBER FED MEETING
 
Tuesday, October 29, 2013
 
CONSUMERS SLOW SPENDING IN SEPTEMBER
The retail sales numbers for September were calculated before the government shutdown, but the signs of weakness were already in place. The Commerce Department reported this morning that retail sales fell by 0.1% during the month of September, a drop from the small 0.2% gain registered in August and below the 0.0% Bloomberg median forecast. Auto and clothing sales were two of the main contributors to the September decline as the traditional back-to-school spending spree fell short of expectations, and auto dealers reported their worst sales numbers in almost a year.
 
Also reported this morning was the Producer Price Index (PPI) for September. Recall that in order for the Fed to maintain its accommodative stance, inflation needs to remain in check. Although PPI isn’t one of the primary inflation measures the Fed considers, it does present a picture of price pressure at the wholesale level, which presumably will have an impact on the price of final goods. Like retail sales, headline PPI was unexpectedly negative in September. The -0.1% reading was below the median forecast for a 0.1% gain. The PPI core rate, which excludes food and energy prices, rose by 0.1%. On a year-over-year basis, headline PPI is increasing at a pedestrian 0.3% pace, while core PPI is rising at a 1.2% annual rate.
 
The bottom line on this morning’s data is both series support further accommodation by the Fed. The FOMC meets today and tomorrow. Unlike at the September meeting, few anticipate Fed officials will announce plans to taper back on its QE3 purchases. In fact, a majority of Primary Dealers now expect the Fed will wait until the March 2014 meeting before announcing any reduction in its $85 billion in monthly asset purchases.
 
Tapering is only the first step in reeling in accommodative policy. Eventually, the asset purchases will be stopped all together, but it is unlikely the overnight funds target will be lifted before this occurs. Thus, most economists believe short-term rates will continue to trade near record lows well into 2015.
 
MARKET INDICATIONS AS OF 9:15 A.M. CENTRAL TIME
DOW
UP 37 to 15,606
NASDAQ
UP 2 to 3,942
S&P 500
UP 3 to 1,765
1-Yr T-bill
current yield 0.10%; opening yield 0.10%
2-Yr T-note
current yield 0.32%; opening yield 0.31%
5-Yr T-note
current yield 1.28%; opening yield 1.29%
10-Yr T-note
current yield 2.52%; opening yield 2.52%
30-Yr T-bond
current yield 3.62%; opening yield 3.62%
 

OCTOBER 2013 BLOOMBERG INTEREST RATE AND ECONOMIC SURVEYS
 
Tuesday, October 22, 2013
 
From October 4 to October 9, 2013, Bloomberg News surveyed approximately 70 of the nation’s top economists for their most recent opinions on the U.S. economy and interest rates. The following are the results of their responses:
 
THE INTEREST RATE FORECAST
 
Overnight Fed Funds - The MEDIAN fed funds forecast for Q4 2013 is 0.25%. The MEDIAN forecast for the next six quarters are 0.25%, 0.25%, 0.25%, 0.25%, 0.25% and 0.25%. The current fed funds target rate is a range between 0.00% and 0.25%.
 
At present time, the Fed is squarely on hold. At the September FOMC meeting, most market participants believed the Fed would announce a small reduction in their $85 billion monthly asset purchase program, thereby beginning the much-anticipated QE3 taper. They did not. Since that time, a 16-day government shutdown has robbed the Fed of the data it needs to properly evaluate the economy, and by some estimates has slowed Q4 GDP growth by as much as half a percentage point. Another important consideration is the pending appointment of the dovish Janet Yellen to replace Ben Bernanke as Fed Chairman. Yellen is expected to be every bit as accommodative as Bernanke. As a result of these developments, Fed officials are likely to further delay tapering into early 2014. Likewise, any change in the overnight funds target, which has now stood at 0.00% to 0.25% since December 2008, will probably be pushed back into the middle part of 2015 or beyond.
 
2-year Treasury-note - The average 2-year yield forecast for Q4 2013 is 0.42%. The average yield forecast for the next six quarters are 0.51%, 0.60%, 0.74%, 0.87%, 0.89% and 1.03%. The current 2-yr Treasury yield is 0.30%.
 
 
Q4 2013
Q1 2014
Q2 2014
Q3 2014
Q4 2014
Q1 2015
Q2 2015
Current Survey
(October 2013)
0.42%
0.51%
0.60%
0.74%
0.87%
0.89%
1.03%
Prior Survey
(September 2013)
0.47%
0.56%
0.67%
0.81%
0.97%
1.12%
N/A
One Year Prior
(October 2012)
0.59%
0.71%
0.85%
N/A
N/A
N/A
N/A
 
10-year Treasury-note - The average 10-year yield forecast for Q4 2013 is 2.82%. The average forecast for the next six quarters are 2.95%, 3.08%, 3.22%, 3.24%, 3.33% and 3.39%.  The current 10-year yield is 2.52%.
 
Q4 2013
Q1 2014
Q2 2014
Q3 2014
Q4 2014
Q1 2015
Q2 2015
Current Survey
(October 2013)
2.82%
2.95%
3.08%
3.22%
3.24%
3.33%
3.39%
Prior Survey
(September 2013)
2.84%
2.96%
3.09%
3.24%
3.37%
3.50%
N/A
One Year Prior
(October 2012)
2.34%
2.47%
2.61%
N/A
N/A
N/A
N/A
 
30-year Treasury-bond - The average 30-year yield forecast for Q4 2013 is 3.82%. The average forecast for the next six quarters are 3.95%, 4.06%, 4.18%, 4.26%, 4.28% and 4.40%. The current 30-year yield is 3.62%.
 
Q4 2013
Q1 2014
Q2 2014
Q3 2014
Q4 2014
Q1 2015
Q2 2015
Current Survey
(October 2013)
3.82%
3.95%
4.06%
4.18%
4.26%
4.28%
4.40%
Prior Survey
(September 2013)
3.85%
3.96%
4.07%
4.19%
4.31%
4.41%
N/A
One Year Prior
(October 2012)
3.45%
3.59%
3.72%
N/A
N/A
N/A
N/A
 
 
THE ECONOMIC FORECAST
 
Unemployment Rate - The median forecast for Q4 2013 unemployment is 7.3%. The median forecast for the next five quarters are 7.2%, 7.1%, 7.0%, 6.8% and 6.7%.
 
The official unemployment rate dipped down to 7.2% in September, the lowest level in nearly five years. But once again, the driving force hasn’t been job creation; it’s an ever-shrinking labor force. The labor force participation rate fell to 63.2% in August and remained at that 35-year low point in September. If the participation rate were at early 2008 levels, unemployment would be around 11.5%.       
 
Real GDP (annualized economic growth) - The median GDP growth forecast for Q4 2013 is +1.9. The median forecast for the next five quarters are +2.4%, +2.6%, +2.8%, +2.9% and +3.0%.
 
Second quarter (annualized) GDP came in at 2.5%, while the preliminary third quarter GDP estimate is around 2.0%.  Fourth quarter growth will be tempered by the government shutdown, and is currently estimated to be just under 2.0%.  The average economic growth rate in the U.S. over the past 65 years is 3.2%, so whenever the Fed does begin tightening monetary policy, it will be further slowing economic growth from what is already a sub-par pace. This suggests when the Fed does begin hiking short rates, it should be a very gradual process.    
 
Consumer Prices - The median annualized consumer inflation forecast for Q4 2013 is +1.6%. The median forecast for the next five quarters are +1.5%, +1.5%, +1.9%, +1.9% and 2.0%. 
 
Low levels of inflation allow the Fed to continue providing a high level of economic stimulus. Right now, inflation across virtually all measures seems to be well contained. Ideally, the Fed would prefer to see price pressure at around 2%. Thus, there is still plenty of latitude for the Fed to continue being accommodative.  
 
MARKET INDICATIONS AS OF 1:20 P.M. CENTRAL TIME
 
DOW
UP 62 to 15,542
NASDAQ
UP 4 to 3,923
S&P 500
UP 12 to 1,750 (new record high)
1-Yr T-bill
current yield 0.10%; opening yield 0.11%
2-Yr T-note
current yield 0.30%; opening yield 0.31%
5-Yr T-note
current yield 1.29%; opening yield 1.35%
10-Yr T-note
current yield 2.51%; opening yield 2.60%
30-Yr T-bond
current yield 3.61%; opening yield 3.67%

 
BONDS RALLY ON WEAK EMPLOYMENT
 
Tuesday, Oct 22, 2013
 
DELAYED SEPTEMBER JOBS REPORT DISAPPOINTS
It was delayed by more than two weeks as a result of the 16-day government shutdown, but when the September employment report was finally released, it continued the recent trend of weakening data. Nonfarm payrolls climbed by just 148k during the month, well below the Bloomberg median forecast for 180k jobs. July was revised downward by 15k to 89k, while August was revised up by 27k to 193k for a two month net revision of +9k.
 
Although a monthly average of 177k jobs have been added to company payrolls since the year began, the past three months have averaged a paltry 143k. The general rule of thumb is that 150k new jobs are needed every month to simply absorb new entrants into the labor market. Normally, job creation would have to be well above the 150k mark in order to drive down the unemployment rate. Of course, what makes today different is that the number of people entering the workforce is actually shrinking. The participation rate, according to the Bureau of Labor Statistics, held steady in September at a 35-year low of 63.2%. Thus, the number of people finding work relative to the number actively searching, has been steadily falling.
 
The super-low participation rate combined with the admittedly slow job growth to push the unemployment rate down to 7.2%, the lowest official level in nearly five years. Take this with a grain of salt. The U6 measure of unemployment, which includes everyone who would accept a fulltime position if one were offered, is still at a lofty 13.6%, well above the 8.4% rate recorded in November 2007, the month before the recession began.
          
Job growth was created last month primarily in state and local governments (+28k), transportation and warehousing (+23k), retail (+21k), construction (+20k), ), health and education (+14k) and manufacturing (+2k). Job declines were found in the federal government sector (-6k) as well as food service and drinking establishments (-7k).
 
Average hourly earnings rose by $0.03, or 0.1% to $24.09 in September, but this rather small increase pulled down the year-over-year average earnings rate from 2.3% to 2.1%.
 
All in all, the September employment report supports the generally held idea that the Fed will not announce tapering plans at the October or December FOMC meetings. In fact, with Janet Yellen taking over as Fed Chairman, there is no clear starting point, although presumably the Fed will have to ease back on its massive $85 billion in monthly asset purchasers sometime in early 2014. By contrast, the overnight funds target will likely remain near zero until sometime in 2015, although many now see the Fed on hold for a much longer period.    
 
The bond market has rallied this morning, with the 10-year Treasury note yield down to 2.52%, nearly half a point below the recent peak of 3.00% on September 5th.  The five-year Treasury yield, which reached 1.87% on that same date, has dropped all the way to 1.29%.
 
The idea that the Fed will continue on its accommodative path has fueled stocks to big gains in early trading.     
 
MARKET INDICATIONS AS OF 9:25 A.M. CENTRAL TIME
DOW
UP 115 to 15,508
NASDAQ
Up 22 to 3,942
S&P 500
Up 13 to 1,757
1-Yr T-bill
current yield 0.10%; opening yield 0.11%
2-Yr T-note
current yield 0.30%; opening yield 0.31%
5-Yr T-note
current yield 1.29%; opening yield 1.35%
10-Yr T-note
current yield 2.52%; opening yield 2.60%
30-Yr T-bond
current yield 3.62%; opening yield 3.67%

 


MARKETS SHOWING SIGNS OF WASHINGTON STRESS
 
Tuesday, October 8, 2013
 
POLITICAL POISON AFFECTING MARKETS
Financial markets are beginning to show signs of stress from the political nonsense infecting our nation’s capital. Stock markets endured a second straight day of large losses with the Dow falling 160 points, after yesterday’s 136 point decline. From its post-FOMC peak on September 18th, the Dow is down 900 points, having lost 5.7%. The S&P 500 has lost 70 points for a 4% decline. The two benchmarks have fallen on 11 of the last 14 trading sessions.
 
Bond markets are feeling the pain as well, as investor concern about defaults, technical or otherwise, begins to grow. Today, China and Japan, which together own more than $2.4 trillion of U.S. debt, issued warnings about the consequences of a default. Most of the so called experts seem to believe the chances of the U.S. actually defaulting on its debt are nil, apparently believing that the consequences would be so catastrophic as to make it an impossibility. Investors, however, are starting to worry. Today’s auction of 4-week T-bills came at 0.35%. Until recently, similar T-bills have been trading in the low single digits. Investors don’t want to be stuck holding onto T-bills that mature around the time the government runs out of cash. Other T-bills maturing in late October and early November have seen their yields climb, too. Issues maturing later in November and beyond don’t seem to be affected yet, the theory being that any breach of the debt ceiling and potential default would be short lived. However, the fallout is beginning to spill over into some of the longer maturities. Over the last three days the yield on the two-year T-note has gone from 0.31% to 0.38%. These movements do not appear to be due to the Fed or strengthening economic data. Rather, it is concern about the debt ceiling. The rhetoric out of Washington certainly hasn’t provided any comfort to investors.
The good news hidden within the market’s reaction is that perhaps this will generate enough heat to force the nation’s leaders to do something besides point their fingers at the other side. The closer to the edge the politicians push us, the more dislocated and worried markets will become.

MARKET INDICATIONS AS OF 4:45 P.M. CENTRAL TIME
DOW
Down 160 to 14,777
NASDAQ
Down 76 to 3,695
S&P 500
Down 21 to 1,655
1-Yr T-bill
current yield 0.13%; opening yield 0.10%
2-Yr T-note
current yield 0.38%; opening yield 0.34%
5-Yr T-note
current yield 1.42%; opening yield 1.40%
10-Yr T-note
current yield 2.63%; opening yield 2.63%
30-Yr T-bond
current yield 3.69%; opening yield 3.69%
 

FINANCIAL MARKETS TAKE SHUTDOWN IN STRIDE...FOR NOW
 
Tuesday, October 1, 2013
 
GOVERNMENT SHUTS DOWN
There was no last minute continuing resolution to fund the government, and at midnight, an estimated 800,000 non-essential Federal government workers were furloughed. Essential workers will work without pay until Congress agrees on a new budget. Military workers will be paid.
 
The impasse was a simple one, but apparently insurmountable. The GOP-controlled House will only pass a budget if Obamacare is postponed, but the Senate, under Democratic leadership, refuses any change in the healthcare plan or its implementation.
 
The shutdown isn’t expected to last. With Congressional approval ratings near an all-time low of 10%, no one stands to benefit from a lengthy showdown. Analysts generally expect that 0.15% will be extracted from GDP each week that the government remains closed.   
 
The last time the government closed its doors was in December 1995. House Speaker Newt Gingrich eventually lost his job when the public lost its patience after 21 days of bickering. This time, the GOP is again taking most of the blame. What complicates things is that the GOP is so fragmented that finding a unified party front might be an even tougher battle than negotiating with the Democrats.
 
Right now, the public isn’t too concerned. The stock markets have been up all day, so any flight-to-quality expected to drive bond yields lower has yet to happen. Bond yields are actually a bit higher.
 
The bigger problem is 16 days away when the debt ceiling is reached. The possibility of default is extremely unlikely, but today’s surprising one-month bill auction suggests otherwise as the auction yield ballooned to 0.12% from 0.02%. The thought is that this particular bill could end up in technical default if no resolution has been reached by its maturity date.   
 
In other news, the ISM manufacturing index for September topped the median Bloomberg forecast and reached a two-year high of 56.2. Recall, any number above 50 indicates factory sector expansion, while below 50 indicates contraction. The employment index climbed to its highest level in 18 months at 56.2 after posting a solid 55.7 in the prior month, while the new orders index slipped a bit, but remained in very healthy territory at 60.5.           
 
The monthly employment report is scheduled for Friday, but would not be released if the Federal government remains closed.     
 
MARKET INDICATIONS AS OF 2:15 P.M. CENTRAL TIME
DOW
UP 25 to 15,154
NASDAQ
UP 33 to 3,804
S&P 500
UP 10 to 1,692
1-Yr T-bill
current yield 0.09%; opening yield 0.09%
2-Yr T-note
current yield 0.33%; opening yield 0.32%
5-Yr T-note
current yield 1.42%; opening yield 1.38%
10-Yr T-note
current yield 2.64%; opening yield 2.61%
30-Yr T-bond
current yield 3.71%; opening yield 3.69%

 


MARKETS RALLY ON SUMMERS WITHDRAWAL

Monday, September 16, 2013
 
SUMMERS WITHDRAWS FROM CONSIDERATION FOR FED CHAIR
After weeks of speculation it was widely reported last week that President Obama would nominate former Treasury Secretary Lawrence Summers to succeed Ben Bernanke as chairman of the Federal Reserve. Both stock and bond markets had been selling off on the thought that a Fed led by Larry Summers would be less accommodative, perhaps ending QE3 more quickly and raising the overnight fed funds rate sooner than had been expected. On Sunday, Summers abruptly withdrew from consideration after several Democratic Senators indicated they would not support a Summers nomination. Summers stated that he had “reluctantly concluded that any possible confirmation process for me would be acrimonious and would not serve the interests of the Federal Reserve, the Administration, or ultimately, the interests of the nation’s ongoing economic recovery.”
 
Current Vice Chair Janet Yellen likely now resumes her role as front-runner, but the Wall Street Journal reports that President Obama has been annoyed by the public lobbying on her behalf. That opens the door for other candidates.
 
STOCK AND BOND MARKETS UP SHARPLY
Both stock and bond markets have rallied sharply in the wake of the Summers withdrawal. The Dow has opened up more than 150 points while the S&P 500 is up 16. The two-year Treasury note, which traded as high as 0.53% two weeks ago, has fallen from 0.43% on Friday to 0.38% this morning. Over that same time span, the 10-year T-note has gone from 3.00% down to 2.79%. Attention now turns to this week’s FOMC meeting and the question of whether or not the Fed will announce a plan to taper QE, and if so, by how much.

MARKET INDICATIONS AS OF 8:50 A.M. CENTRAL TIME

DOW
Up 153 to 15,529
NASDAQ
Up 22 to 3,744
S&P 500
Up 16 to 1,703
1-Yr T-bill
current yield 0.10%; opening yield 0.11%
2-Yr T-note
current yield 0.38%; opening yield 0.43%
5-Yr T-note
current yield 1.56%; opening yield 1.69%
10-Yr T-note
current yield 2.79%; opening yield 2.89%
30-Yr T-bond
current yield 3.79%; opening yield 3.83%

 

 

SEPTEMBER 2013 BLOOMBERG INTEREST RATE AND ECONOMIC SURVEYS
 
Monday, September 16, 2013
 
From September 6 to September 11, 2013, Bloomberg News surveyed approximately 80 of the nation’s top economists for their most recent opinions on the U.S. economy and interest rates. The following are the results of their responses:
 
THE INTEREST RATE FORECAST
 
Overnight Fed Funds - The MEDIAN fed funds forecast for Q3 2013 is 0.25%. The MEDIAN forecast for the next six quarters are 0.25%, 0.25%, 0.25%, 0.25%, 0.25% and 0.25%. The current fed funds target rate is a range between 0.00% and 0.25%.
 
The Fed is largely expected to wrap up its latest round of quantitative easing with a taper beginning sometime in the final quarter of the year. However, reeling in QE3 shouldn’t imply that the Fed has drawn any closer to tightening monetary policy. The overnight fed funds target rate of 0.00% to 0.25% has been entrenched since December 2008. Virtually all of the words coming from the mouths of Fed officials in recent months regarding the funds rate suggest that tightening will not begin before 2015. Provided inflation remains in check, the Fed would only boost the funds rate if the economy were moving forward at better than a moderate pace. Ending the massive quantitative easing program is expected to keep upward pressure on intermediate and long rates, which in turn should have a detrimental effect on economic growth. As a result, the end of QE3 actually makes a stronger case to keep short rates low.              
 
2-year Treasury-note - The average 2-year yield forecast for Q3 2013 is 0.41%. The average yield forecast for the next six quarters are 0.47%, 0.56%, 0.67%, 0.81%, 0.97% and 1.12%. The current 2-yr Treasury yield is 0.38%.
 
 
Q3 2013
Q4 2013
Q1 2014
Q2 2014
Q3 2014
Q4 2014
Q1 2015
Current Survey
(September 2013)
0.41%
0.47%
0.56%
0.67%
0.81%
0.97%
1.12%
Prior Survey
(August 2013)
0.36%
0.44%
0.53%
0.64%
0.73%
0.85%
0.99%
One Year Prior
(September 2012)
0.63%
0.76%
0.96%
N/A
N/A
N/A
N/A
 
10-year Treasury-note - The average 10-year yield forecast for Q3 2013 is 2.74%. The average forecast for the next six quarters are 2.84%, 2.96%, 3.09%, 3.24%, 3.37% and 3.50%.  The current 10-year yield is 2.83%.
 
Q3 2013
Q4 2013
Q1 2014
Q2 2014
Q3 2014
Q4 2014
Q1 2015
Current Survey
(September 2013)
2.74%
2.84%
2.96%
3.09%
3.24%
3.37%
3.50%
Prior Survey
(August 2013)
2.62%
2.73%
2.87%
3.00%
3.14%
3.24%
3.31%
One Year Prior
(September 2012)
2.99%
3.18%
3.35%
N/A
N/A
N/A
N/A
 
30-year Treasury-bond - The average 30-year yield forecast for Q3 2013 is 3.75%. The average forecast for the next six quarters are 3.85%, 3.96%, 4.07%, 4.19%, 4.31 and 4.41%. The current 30-year yield is 3.84%.
 
Q3 2013
Q4 2013
Q1 2014
Q2 2014
Q3 2014
Q4 2014
Q1 2015
Current Survey
(September 2013)
3.75%
3.85%
3.96%
4.07%
4.19%
4.31%
4.41%
Prior Survey
(August 2013)
3.70%
3.76%
3.90%
4.01%
4.12%
4.18%
4.20%
One Year Prior
(September 2012)
4.16%
4.35%
4.61%
N/A
N/A
N/A
N/A
 
 
THE ECONOMIC FORECAST
 
Unemployment Rate - The median forecast for Q3 2013 unemployment is 7.4%. The median forecast for the next five quarters are 7.2%, 7.1%, 7.0%, 6.9% and 6.7%.
 
The primary reason why the markets began anticipating a near-term tapering of Fed asset purchases in early May was the unexpected strength of the April employment report. At that time, nonfarm payrolls were seen growing at a relatively healthy three-month average pace of 212k. This, despite the much ballyhooed budget sequestration and a return to higher payroll taxes. The recently released August payroll report showed a gain of just 169k new jobs as well as downward revisions to prior months that combined to push the three-month average to a less robust 148k. The official unemployment rate declined to 7.3% in August, the lowest level since December 2008. Unfortunately, this upbeat number is misleading as the unemployment rate only considers Americans who are actively seeking employment, and frankly, fewer and fewer have been looking. The labor force participation rate fell to a 35-year low of 63.2% in August. If the participation rate had simply remained at the same level as the beginning of 2008, unemployment would be a staggering 11.5%.       
 
Real GDP (annualized economic growth) - The median GDP growth forecast for Q3 2013 is +2.1%. The median forecast for the next five quarters are +2.5%, +2.7%, +2.8%, +2.95% and +3.0%.
 
The first revision to second quarter (annualized) GDP boosted economic growth from +1.8% to 2.5%. However, the positive revision was due entirely to a change in the trade deficit numbers which is not likely to carry forward into the third quarter. The recent slide in consumer spending is hinting at downside bias to third quarter growth, even though forecasted GDP is still well below the historical norm. The average economic growth rate in the U.S. over the past 65 years is 3.2%, so stimulus-fueled growth in the neighborhood of 2.0% to 2.5% is nothing to crow at.     
 
Consumer Prices - The median annualized consumer inflation forecast for Q3 2013 is +1.6%. The median forecast for the next five quarters are +1.6%, +1.7%, +2.0%, +2.0% and 2.0%. 
 
The inflation data is important primarily because low price pressure allows the Fed to continue providing a high level of economic stimulus. As of this writing, core PPI and core CPI are rising at year-over-year rates of 1.3% and 1.7% respectively, while the Fed’s preferred inflation measure, the PCE deflator, is rising at a 1.4% annual rate through the second quarter. Generally speaking, the Fed would like to see a moderate amount of inflation, believed to be something around 2.0%.  Thus, current rates of inflation are considered to be quite low. 
 
MARKET INDICATIONS AS OF 11:38 A.M. CENTRAL TIME
 
DOW
UP 165 to 15,542
NASDAQ
UP 12 to 3,734
S&P 500
UP 17 to 1,705
1-Yr T-bill
current yield 0.10%; opening yield 0.11%
2-Yr T-note
current yield 0.34%; opening yield 0.43%
5-Yr T-note
current yield 1.59%; opening yield 1.69%
10-Yr T-note
current yield 2.83%; opening yield 2.89%
30-Yr T-bond
current yield 3.84%; opening yield 3.83%

 


CONSUMER SPENDING PROVES TEPID IN FRONT OF NEXT WEEK'S CRITICAL FOMC MEETING

Friday, September 13, 2013
 
DISAPPOINTING RETAIL SALES ADD TO A GROWING PILE OF WEAK DATA
This morning, the closely watched retail sales report suggested that consumers are feeling the pinch of higher taxes, lower wages and higher borrowing costs. The 0.2% increase in August was the smallest gain in four months and at the low end of analyst estimates. Since the energy impact was neutral in August, this morning’s numbers are fairly representative of the consumer’s actual contribution to economic growth. In fact, purchases excluding autos, gasoline and building materials (the number used to calculate GDP) rose by the same trivial 0.2%.
 
Also this morning, the University of Michigan consumer sentiment index fell from 82.1 to a four-month low of 76.8 in the initial September reading.  Rising interest rates, higher gasoline prices, diminished job prospects, possible military action in Syria and a struggling stock market dampened consumer outlooks during the survey period. 
 
In economic news from earlier in the week, the Job Openings and Labor Turnover (JOLT) survey for July showed a significant decline in job postings, as the number of positions waiting to be filled fell by 180k to the lowest level in six months. This is another indication that employment conditions may not be improving as much as generally assumed.  The Mortgage Bankers Association applications index fell by 13.5% during the week of September 6th.  Most of this decline was due to a 28% plunge in the refinancing index; however, the new applications index has been falling steadily for months.  It’s no surprise that increasing interest rates have had a negative effect on the housing market. Although home sales remain quite brisk in many parts of the country, the increase in mortgage costs is squeezing out the marginal buyers.
 
CRITICAL TWO-DAY FOMC MEETING SLATED FOR NEXT WEEK
The upcoming FOMC meeting, scheduled for September 17-18, is a particularly important meeting because the Fed is largely expected to announce the beginning of a taper in their “QE3” asset purchase plan. Perhaps more importantly, they are expected to provide clarity as to how much they’ll be cutting back on their $85 billion in monthly purchases.  The bond market began a de facto tapering in early May in anticipation of Fed action. On the afternoon of September 18th, the markets will receive confirmation. By some estimates, a $15 billion to $20 billion reduction (based on what was then strengthening economic data) has already been priced in.  If the Fed announces a significantly smaller amount, many experts predict bonds could rally.
      
Not all Fed officials are on the September tapering page. Atlanta Fed president Dennis Lockhart recently told an audience that the tapering decision, “…whether in September, October, or December, ought to be thought of as a cautious first step.” Following the weak August employment report, Chicago Fed President Charles Evens said he would go into the FOMC meeting with an open mind and “could be persuaded.”  And, Minneapolis Fed President Narayana Kocherlakota believes the FOMC should be providing more stimulus; not less.

MARKET INDICATIONS AS OF 10:35 A.M. CENTRAL TIME

DOW
UP 67 to 15,368
NASDAQ
DOWN 1 to 3,715
S&P 500
UP 2 to 1,680
1-Yr T-bill
current yield 0.11%; opening yield 0.11%
2-Yr T-note
current yield 0.44%; opening yield 0.43%
5-Yr T-note
current yield 1.69%; opening yield 1.70%
10-Yr T-note
current yield 2.89%; opening yield 2.91%
30-Yr T-bond
current yield 3.83%; opening yield 3.85%

 


EMPLOYMENT REPORT ADDS TO UNCERTAINTY

Friday, September 06, 2013
 
EMPLOYMENT REPORT WEAKER THAN HEADLINE
The headlines for the August employment report will show that the economy created 169k new jobs last month and the unemployment rate declined from 7.4% to 7.3%. Those figures are not too far away from the consensus estimates for a gain of 180k jobs and an unchanged 7.4% unemployment rate. But beyond the headlines the details in today’s report were tepid. Net revisions to prior months’ data subtracted 74k jobs as June was revised from +188k to +172k and July was cut from +162k to +104k. If we consider those revisions, today’s report added just 95k new jobs. Over the last three months the economy has created an average of 148k jobs per month. Not bad, but nothing to jump up and down about either. At 7.3%, the unemployment rate has reached the lowest level since December 2008 and has fallen almost a full point from 8.1% a year ago. Unfortunately, much of that improvement is the result of a falling participation rate. The official unemployment rate only captures those individuals who wanted and were available for work, and had searched for work in the 4 weeks preceding the survey. If you don’t meet those conditions, you don’t get counted as part of the labor force and you don’t get included in the tally of unemployed. The labor force participation rate fell to a 35-year low at 63.2% in August, the lowest level since August 1978. That is a concern for the Fed, who would much rather see a falling unemployment rate amid a rising participation rate.
 
Officially, there are 11.3 million unemployed people in the U.S. and another 2.3 million who are “marginally attached to the labor force.” That means they would like a job, but hadn’t searched in the last four weeks. An additional 7.9 million persons are employed part time for economic reasons, meaning they were working part time because their hours had been cut back or they were unable to find a full time job. Taking all these groups into consideration, the broader U-6 unemployment measure was 13.7%.

ISM DATA TOPS FORECASTS
A couple of other data points to catch up on include the August ISM manufacturing index, which rose to 55.7 from 55.4 in July. This was the highest level since June 2011, and well above the median forecast calling for a slight drop to 54. Recall that 50 is the dividing line between contraction and expansion, so the headline suggests that the factory sector is relatively healthy and gaining momentum. The headline number was driven by the new orders component, which jumped from 58.3 to 63.2. The ISM non-manufacturing (service sector) index for August also surprised to the upside, rising from 56.0 to 58.6, the highest in eight years. The new orders index rose from 57.7 to 60.5, and the employment index from 53.2 to 57.0, the highest since February.  Finally, vehicle sales for August climbed to a 16.02 million unit annual pace, the highest since November 2007.
 
On balance, today’s employment report was a little soft, but that is counter-balanced by the strength shown in other data this week. Employment is a lagging indicator and with other data picking up, employment gains would normally be expected to follow. Most forecasts still call for the Fed to announce a reduction in the size of its monthly QE purchases following the conclusion of the FOMC meeting on September 18th. However, today’s data does further complicate the picture and could give the Fed an opening to postpone its tapering plans. The bond market sell off that had accelerated this week has at least been temporarily interrupted. The two-year Treasury note, which started the week yielding 0.40% and peaked at 0.53% intra-day on Thursday, has rallied back down to 0.45% currently. The 10-Year T-note briefly traded above 3% Thursday and now stands at 2.92%. Stock markets were little changed on the news but have since dropped sharply on Syria news.

MARKET INDICATIONS AS OF 9:15 A.M. CENTRAL TIME

DOW
Down 105 to 14,833
NASDAQ
Down 21 to 3,637
S&P 500
Down 8 to 1,647
1-Yr T-bill
current yield 0.12%; opening yield 0.14%
2-Yr T-note
current yield 0.45%; opening yield 0.52%
5-Yr T-note
current yield 1.73%; opening yield 1.85%
10-Yr T-note
current yield 2.90%; opening yield 3.00%
30-Yr T-bond
current yield 3.82%; opening yield 3.89%

 


FED CONSIDERS DATA IN FRONT OF SEPT FOMC MEETING

Friday, August 30, 2013
 
HIGHER RATES MAY BE A MOMENTUM KILLER
 The big question that few are talking about is whether the sharp rise in interest rates will push the economic recovery off its tracks. Last week’s 13.4% decline in July new home sales was a sign that higher rates were already having a negative effect on housing. Monday’s July durable goods number signaled that U.S. companies might be feeling the pinch as well. Headline durables fell by 7.3%. A drop was largely expected, just not this big. The median forecast was for a smaller 4.0% decline. When volatile transportation orders are excluded, orders fell by 0.6%.  The median forecast here was for a 0.5% increase. Capital goods orders, excluding defense and aircraft, dropped by 3.3%, well short of the forecasted 0.5% gain. When all of these numbers are tallied, it appears as though third quarter economic growth is losing momentum.
 
The first revision to second quarter GDP (released yesterday) brought the prior quarter’s economic growth figure up from 1.8% to 2.5%. The positive revision was entirely expected and due to a change in the trade deficit data, which is not likely to carry into the third quarter. Within the deficit number, imports were revised downward from 9.5% to 7.0%, while exports were revised upward from 5.4% to 8.6%.  As a result, net exports were flat in the first revision, thus negating the 0.8% by which net exports had reduced GDP in the initial reading.
 
This morning, personal spending and personal income came in below forecast. Both income and spending rose by just 0.1% in July, missing expectations for gains of 0.2% and 0.3%. Analysts have suggested that even though job creation has picked up in recent months, many of these jobs are of the low paying variety, which doesn’t support robust spending.
Also released this morning was the Personal Consumption Expenditures (PCE) deflator, which is the inflation number Fed officials watch most closely. The PCE number was up just 0.1% for the month of July, while the year-over-year inflation rate rose by 1.4%, exactly matching expectations. This is still well below the Fed’s target inflation rate of 2.0%.    
 
IMPORTANT FED MEETING ON TAP
The next FOMC meeting is scheduled for September 17th and 18th, and the general expectation is that Fed officials will announce some type of QE3 tapering plan at the conclusion. Most market analysts are calling for a purchase reduction in the range of $10 to $15 billion per month. It appears the bond market has already factored in a considerably larger QE3 reduction on its own, which may open the door for some amount of correction if the Fed’s stance doesn’t match market expectations.
Much of the recent economic data has been on the softer side, suggesting that the Fed could possibly delay the start of any taper until the late October meeting. However, the FOMC’s ultimate decision at the September meeting will rely heavily on the August employment report, which is scheduled for release on September 6th

MARKET INDICATIONS AS OF 9:45 A.M. CENTRAL TIME

DOW
DOWN 42 to 14,798
NASDAQ
DOWN 25 to 3,595
S&P 500
DOWN 2 to 1,636
1-Yr T-bill
current yield 0.12%; opening yield 0.12%
2-Yr T-note
current yield 0.39%; opening yield 0.39%
5-Yr T-note
current yield 1.59%; opening yield 1.60%
10-Yr T-note
current yield 2.75%; opening yield 2.76%
30-Yr T-bond
current yield 3.70%; opening yield 3.72%

 


HOUSING, INTEREST RATES AND THE FED

Friday, August 23, 2013
 
DEBATE OVER NEW FED CHAIR RILES MARKETS
It’s been a light week in terms of economic data, and up until this morning, the bond market has primarily sold off.  Much of the recent negative market movement may have been driven by the debate over who will replace Ben Bernanke as Fed Chairman next January. The early favorite had been Vice Chair Janet Yellen. The prevailing thought had been that Yellen would be as accommodative, if not more accommodative than Bernanke. The new favorite is Larry Summers. Although he has served as U.S. Treasury Secretary, Harvard University President and White House Economic Council under President Obama, he’s proven to be a rather  unpopular choice. Critics have focused on his role in the 1999 repeal of the Glass-Steagall Act as well as his support for deregulating the derivatives market, widely considered to be underlying contributors to the “great recession.” Summers would also be less likely to continue down the super-accommodative monetary policy path that Bernanke has blazed. In recent days, trail balloons on other possible replacements have been floated, the most interesting being Tim Geithner.
 
HIGHER MORTGAGE RATES IMPACT HOME SALES
Earlier this week, existing home sales jumped by 6.5% in July to an annualized unit pace of 5.39 million. Although this was significantly above the median forecast and the highest level of home sales in almost four years, a number of experts suspect the pace may be unsustainable. The belief is that July sales represent a mad rush to take advantage of lower borrowing costs before the Fed begins tapering. Of course, a de facto taper has already begun and actually gained momentum last week as longer-term interest rates rose to their highest levels in two years.
 
The 30-year fixed-rate mortgage loan average matched its highest level in 25 months last week at 4.68% (MBA weekly index). As recently as early May, the average 30-year rate had been 3.59%. It appears as though higher lending rates may already be affecting new home sales, which are tallied at the time purchase contracts are signed, instead of at closing. This morning, new home sales unexpectedly fell in July by the most in three years. The 13.4% drop brought annualized sales down from a revised 455k pace to 394k, the weakest since October. As the sales rate slowed, new home inventory levels shot up from a 4.3 month supply to 5.2. It’s hard to say whether the July decline will have a significant effect on new construction, as builder confidence actually stands at its highest level in nearly eight years.              
 
FOMC MINUTES SUGGEST A MORE PATIENT FED
Fed minutes from the July FOMC meeting, which were released Wednesday, showed that a number of participants “were somewhat less confident about a near-term pickup in economic growth than they had been in June...” Committee members also expressed concern that higher interest rates could hold back future spending and economic growth. (Since the July meeting, the 10-year Treasury yield is higher by 30 bps and stocks are down 4%.) Much to the chagrin of investors, there was no clear consensus on tapering as a few members believed it was time to begin cutting back on asset purchases while others believed the committee should remain patient. Yet again, Fed members said any action will be “data dependent.”
 
This morning, St. Louis Fed President James Bullard noted that the economy isn’t doing nearly as well as the market is indicating. He pointed out that over the past year both GDP and inflation have actually declined, while the unemployment rate has dropped primarily due to the way it’s being calculated. Bullard told his audience that the Fed “doesn’t need to be in a hurry.” This is a mantra that most Fed officials would like to embrace.
 
There does seem to be a growing consensus that the taper, when it does occur, will be somewhat smaller than originally thought. The most recent Bloomberg economist survey, completed on August 13th, shows that although 65% of economists expect the Fed to begin tapering in September, the reduction is only expected reduce monthly asset purchases from $85 billion to $75 billion.
 
MARKET INDICATIONS AS OF 10:55 A.M. CENTRAL TIME

DOW
UP 12 to 14,976
NASDAQ
UP 11 to 3,649
S&P 500
UP 2 to 1,659
1-Yr T-bill
current yield 0.13%; opening yield 0.13%
2-Yr T-note
current yield 0.37%; opening yield 0.39%
5-Yr T-note
current yield 1.63%; opening yield 1.68%
10-Yr T-note
current yield 2.83%; opening yield 2.89%
30-Yr T-bond
current yield 3.81%; opening yield 3.87%

 


AUGUST 2013 BLOOMBERG INTEREST RATE AND ECONOMIC SURVEYS

Thursday, August 15, 2013
 
From August 2 to August 6, 2013, Bloomberg News surveyed approximately 70 of the nation’s top economists for their most recent opinions on the U.S. economy and interest rates. The following are the results of their responses:
 
THE INTEREST RATE FORECAST
 
Overnight Fed Funds - The MEDIAN fed funds forecast for Q3 2013 is 0.25%. The MEDIAN forecast for the next six quarters are 0.25%, 0.25%, 0.25%, 0.25%, 0.25% and 0.25%. The current fed funds target rate is a range between 0.00% and 0.25%.
 
Despite a high likelihood that the Fed will begin reducing the amount of asset purchases under the QE3 program as soon as next month, the overnight fed funds target is expected to remain wedged in the current 0.00% to 0.25% range until sometime in mid-2015. This suggests that yields on short securities, as well as daily rates on money market funds and investment pools, will remain at, or near current levels throughout the remainder of 2013 and 2014. QE3 tapering will affect the long end of the curve, as a decrease in Fed bond purchases will reduce overall demand relative to market supply …although the market supply of new Treasuries is actually shrinking right along with the much-improved Federal deficit picture. The Treasury simply doesn’t need to borrow as much.  This should have buffered the effect of any taper.    
 
2-year Treasury-note - The average 2-year yield forecast for Q3 2013 is 0.36%. The average yield forecast for the next six quarters are 0.44%, 0.53%, 0.64%, 0.73%, 0.85% and 0.99%. The current 2-yr Treasury yield is 0.35%.
 
 
Q3 2013
Q4 2013
Q1 2014
Q2 2014
Q3 2014
Q4 2014
Q1 2015
Current Survey
(August 2013)
0.36%
0.44%
0.53%
0.64%
0.73%
0.85%
0.99%
Prior Survey
(July 2013)
0.37%
0.45%
0.54%
0.65%
0.77%
0.89%
1.07%
One Year Prior
(August 2012)
0.61%
0.74%
0.99%
N/A
N/A
N/A
N/A
 
10-year Treasury-note - The average 10-year yield forecast for Q3 2013 is 2.62%. The average forecast for the next six quarters are 2.73%, 2.87%, 3.00%, 3.14%, 3.24% and 3.31%.  The current 10-year yield is 2.79%.
 
Q3 2013
Q4 2013
Q1 2014
Q2 2014
Q3 2014
Q4 2014
Q1 2015
Current Survey
(August 2013)
2.62%
2.73%
2.87%
3.00%
3.14%
3.24%
3.31%
Prior Survey
(July 2013)
2.50%
2.62%
2.78%
2.90%
3.03%
3.15%
3.27%
One Year Prior
(August 2012)
2.29%
2.46%
2.75%
N/A
N/A
N/A
N/A
 
30-year Treasury-bond - The average 30-year yield forecast for Q3 2013 is 3.70%. The average forecast for the next six quarters are 3.76%, 3.90%, 4.01%, 4.12%, 4.18% and 4.20%. The current 30-year yield is 3.80%.
 
Q3 2013
Q4 2013
Q1 2014
Q2 2014
Q3 2014
Q4 2014
Q1 2015
Current Survey
(August 2013)
3.70%
3.76%
3.90%
4.01%
4.12%
4.18%
4.20%
Prior Survey
(July 2013)
3.58%
3.67%
3.81%
3.93%
4.02%
4.13%
4.22%
One Year Prior
(August 2012)
3.33%
3.51%
3.76%
N/A
N/A
N/A
N/A
 
 
THE ECONOMIC FORECAST
 
Unemployment Rate - The median forecast for Q3 2013 unemployment is 7.4%. The median forecast for the next five quarters are 7.3%, 7.2%, 7.0%, 6.9% and 6.8%.
 
The Fed has indicated that its primary focus is the labor market. If employment conditions continue to improve, it will be justified in reducing the amount of stimulus it has been providing. For this reason, the monthly labor report has assumed an even higher degree of importance as a tool to predict Fed action. But, based on recent data, employment conditions are far from robust. July non-farm payrolls rose by only 162k in July, below both the median forecast for 185k new jobs and the 188k average of the previous three months. Despite mediocre payroll gains, the unemployment rate actually drifted down from 7.6% to 7.4%. This was the combined result of 227k new jobs showing up in the household survey and another 37k people exiting the labor force. The total number of officially unemployed American workers is now 11.5 million, down from 12.7 million a year ago. Of these, 37% have been unemployed for 27-weeks or more. There are also 8.2 million “involuntary part-time workers,” and another 2.4 million not technically considered among the unemployed because they haven’t looked for work in the past four weeks. The broader U6 measure of unemployment, which includes everyone who would accept a fulltime job if one were offered, declined a bit in July from 14.3 to 14.0%. This morning, weekly initial claims (first time filings for unemployment benefits) reached a six-year low of 320k. On the surface, this suggests a more stable work environment; but in all fairness, company employment is so lean these days that there are simply fewer workers around to fire.    
 
Real GDP (annualized economic growth) - The median GDP growth forecast for Q2 2013 is +1.2%. The median forecast for the next five quarters are +2.3%, +2.6%, +2.7%, +2.8% and +3.0%.
 
The initial second quarter (annualized) GDP reading was +1.7%, well above the +1.0% median forecast. However, the better-than-expected number came at the expense of the prior quarter, which was revised downward from +1.8% to +1.1%. There will be two more revisions to the second quarter data, and although this survey suggests a downward revision may be in the cards, vastly improved trade deficit numbers, released after the survey period, suggest otherwise. Having said that, third quarter economic growth appears to be trending quite a bit higher as a result of the improved trade deficit and better consumer spending reports. Recall that the historical average economic growth rate in the U.S. over the past 65 years is 3.2%, so even when supported by a massive amount of stimulus, GDP is still floundering below par.    
 
Consumer Prices - The median annualized consumer inflation forecast for Q3 2013 is +1.6%. The median forecast for the next five quarters are +1.5%, +1.6%, +1.60%, +2.0% and 1.9%. 
 
In theory, if inflationary pressure remains low, the Fed has the latitude to keep interest rates at current levels. That doesn’t mean they will.  This morning, July headline CPI rose by 0.16%, while core rose by 0.15%; both were rounded up to 0.2%, which then matched expectations. On a year-over-year basis, CPI crept up from +1.8% to +2.0% in July, while the core rate rose from +1.6% to +1.7%. These are still quite low on a historical basis. The Fed’s preferred inflation measure, the PCE deflator, is rising at a 1.3% annual rate through the second quarter, while core PCE is up 0.8%. Inflation expectations among economists in the survey have declined slightly from the previous period.        
 
MARKET INDICATIONS AS OF 12:10 P.M. CENTRAL TIME

DOW
DOWN 208 to 15,129
NASDAQ
DOWN 56 to 3,613
S&P 500
DOWN 20 to 1,665
1-Yr T-bill
current yield 0.11%; opening yield 0.11%
2-Yr T-note
current yield 0.34%; opening yield 0.33%
5-Yr T-note
current yield 1.52%; opening yield 1.48%
10-Yr T-note
current yield 2.77%; opening yield 2.71%
30-Yr T-bond
current yield 3.81%; opening yield 3.75%

 


JULY RETAIL SALES SUGGEST STRONGER Q3 CONSUMPTION

Tuesday, August 13, 2013
 
UNDERLYING CONSUMER NUMBERS SURPRISE
On the surface, the July retail sales data appeared a bit disappointing as the headline number rose +0.2%, falling just below the +0.3 median forecast. However, there were a number of important core readings that told analysts the consumer has ramped up spending at the beginning of the third quarter. Vehicle sales declined by 1%, which had a pronounced negative effect on the overall number. When the volatile auto component is factored out, ex-auto sales rose by 0.5%. If autos, building materials and gas station sales are excluded, the “control group” also rose by 0.5%. This was the biggest increase of 2013 in the number used to calculate GDP. As a result, many experts are now boosting their third quarter forecasts based on a more vigorous consumer. Morgan Stanley analysts are now expecting a +3.0% economic growth pace for the current quarter. This would seemingly support a September Fed taper.
 
The bond market has backed up in early trading (prices down/yields up). Stocks are also selling off, presumably because Fed stimulus will likely be reduced in the coming months, …although the same prospect of strong economic growth could easily have made a case for an equity rally.
 
In other news, the National Federation of Independent Business optimism index rose from 93.5 to 94.1 in July, the second highest reading this year. This is mostly a trivial data series; the markets aren’t likely to respond directly. And finally, in the ongoing Fannie Mae/Freddie Mac debate, Senate Majority Leader Harry Reid told NPR listeners that he is “not comfortable” getting rid of the two mortgage giants. He’d simply prefer to “revise” or “revamp” the existing structures. As much as anything, this confirms that the GSE debate is just beginning.  
   
MARKET INDICATIONS AS OF 10:30 A.M. CENTRAL TIME

DOW
DOWN 25 to 15,394
NASDAQ
DOWN 3 to 3,667
S&P 500
DOWN 3 to 1,686
1-Yr T-bill
current yield 0.11%; opening yield 0.11%
2-Yr T-note
current yield 0.33%; opening yield 0.31%
5-Yr T-note
current yield 1.47%; opening yield 1.39%
10-Yr T-note
current yield 2.71%; opening yield 2.62%
30-Yr T-bond
current yield 3.75%; opening yield 3.68%

 


JULY EMPLOYMENT DATA FALLS SHORT

Friday, August 2, 2013
 
LABOR MARKET STRENGTH DIMINISHES
Nonfarm payrolls rose by only 162k in July, below both the median forecast for 185k new jobs and the 188k average of the previous three months. May and June payrolls were revised downward by a total of 26k. Within the July data, the number of retail jobs rose by 47k, while jobs in food service and drinking places grew by 38k. The significance of the job growth in these particular sectors is that both seem to be generally transitioning from full-time to less desirable part-time employment. Higher paying jobs in business and professional services rose by 36k, while health care payrolls were essentially unchanged on the month. The number of factory jobs increased by just 6k, while construction fell by 6k.
 
The unemployment rate actually drifted down from 7.6% to 7.4%. This was the combined result of 227k new jobs showing up in the household survey and 37k people exiting the labor force. For anyone keeping score, the unemployment rate for adult men is 7%, woman 6.5% and teenagers 23.7%. The total number officially unemployed is now 11.5 million, down from 12.7 million a year ago. Of these, 37% have been unemployed for 27 weeks or more. There are also 8.2 million “involuntary part-time workers,” and another 2.4 million not technically considered among the unemployed because they haven’t looked for work within the past four weeks. The broader U6 measure of unemployment, which includes everyone who would accept a fulltime job if one were offered, fell a bit in July from 14.3 to 14%.
 
Some of the minor numbers were also a bit discouraging with the average workweek falling by 0.3% to 34.4 hours, and hourly earnings declining by 0.1% to $23.98. These support the full- to part-time transition idea.
 
The release of the monthly employment report is always a highly anticipated event, but lately it’s taken on added importance because Fed officials have decided that jobs data will determine the degree of accommodation. Based largely on what were relatively strong April and June labor reports, the bond market believed the Fed would begin tapering its QE3 program as soon as September. This might still be the case, but today’s weaker-than-expected numbers suggest that the start could be delayed, or the amount of taper could be less. Bonds have rallied in response.

MARKET INDICATIONS AS OF 8:55 A.M. CENTRAL TIME

DOW
DOWN 58 to 15,569
NASDAQ
DOWN 7 to 3,669
S&P 500
DOWN 5 to 1,701
1-Yr T-bill
current yield 0.11%; opening yield 0.11%
2-Yr T-note
current yield 0.31%; opening yield 0.33%
5-Yr T-note
current yield 1.39%; opening yield 1.49%
10-Yr T-note
current yield 2.63%; opening yield 2.71%
30-Yr T-bond
current yield 3.71%; opening yield 3.76%

 


FLASH:  FED MEETING IS ...MOSTLY AS EXPECTED

Wednesday, July 31, 2013
 
MINOR CHANGES TO OFFICIAL STATEMENT SUPPORT A FED ON HOLD
The financial markets seem to be having a tough time interpreting the FOMC post-meeting statement, as the DOW has bounced from up 54, to down 33, to up 41 …while bond prices have rallied, stalled, fell and re-rallied. The long and the short of it is, the Fed didn’t offer up much more than the latest company lines.
 
The official statement released following the two-day July meeting described the pace of economic activity as “modest” this time, instead of “moderate,” and rewrote a comment on the housing sector from “…has strengthened further…” to “has been strengthening...”  Yawn.  If there was a key takeaway, it was the committee’s admission that persistently low inflation “…could pose risks to economic activity,” but in all fairness, the committee hedged that particular comment by tacking on the thought that it anticipates inflation will gradually move back toward its objective.
 
The reason inflation talk is significant is that despite a generally-held belief the Fed will soon cut back on its $85 billion in monthly security purchases, it has granted itself the latitude to actually increase asset purchases in the future if need be. They’d consider this brow-raising policy move if inflation were to turn into deflation.
 
The Fed also addressed the overnight funds rate, which has held steady at 0.00% to 0.25% for nearly four years now, by reaffirming that their highly accommodative policy stance “…will remain appropriate for a considerable time after the asset purchase plan ends and the economic recovery strengthens.” Fed funds futures are currently indicating that the Fed won’t begin raising short-term rates until mid-2015.  
 
Q2 ECONOMIC GROWTH IS BETTER-THAN-EXPECTED, BUT REVISONS MUDDLE THE PICTURE
The median Bloomberg forecast had been for 1.0% annualized economic growth for the quarter ending June 30, 2013, but Q2 GDP growth turned out to be a heartier 1.7%, due largely to higher business inventory accumulation and a stronger contribution from housing and business spending. Unfortunately, the improved growth during the second quarter came at the expense of the first quarter, as Q1 GDP was revised downward from 1.8% to 1.1%.  
 
This morning’s report was special in that the Commerce Department had issued a rare revision of past GDP numbers. The revisions show that the current economic recovery phase, which began in the middle of 2009, has been slightly better than previously thought, with GDP growth over the past four years averaging 2.3%, instead of 2.1%. Apparently, the new GDP calculation now includes spending on research and development and entertainment.
 
Also released this morning by the Commerce Department, was the core PCE inflation measure that the Fed is keeping a close eye on. Some price pressure is good.  In a perfect world, Fed officials would like core inflation to grow at around 2%. The initial second quarter reading was +0.8%, well below both the median forecast of +1.0%, and the revised +1.4% reading from the prior quarter. The significance of this is that the Fed will be less likely to taper asset purchases in the midst of diminishing inflation.
 
And finally, the July ADP Employment report showed 200k private payroll jobs were added in July. This number beat estimates of 180k, and suggests some upside to Friday’s non-farm payroll report.
 
MARKET INDICATIONS AS OF 2:15 P.M. CENTRAL TIME

DOW
UP 38 to 15,559
NASDAQ
UP 24 to 3,641
S&P 500
UP 12 to 1,698
1-Yr T-bill
current yield 0.11%; opening yield 0.11%
2-Yr T-note
current yield 0.31%; opening yield 0.31%
5-Yr T-note
current yield 1.38%; opening yield 1.39%
10-Yr T-note
current yield 2.59%; opening yield 2.61%
30-Yr T-bond
current yield 3.64%; opening yield 3.68%

 


THE HOUSING SECTOR CONTINUES TO SHINE

Wednesday, July 24, 2013
 
HOME SALES STILL PLENTY STRONG
Higher lending rates have yet to affect national home sales. For the most part, the housing sector is booming in many parts of the county. On Monday, existing home sales for the month of June slipped by 1.2% to an annual pace of 5.08 million annualized units. This was the second highest since November 2009, trailing only the 5.14 million (revised) pace from May. Apparently, a lack of supply is constraining sales somewhat and contributing to higher prices. A recent report by the National Association of Realtors showed that 47% of agents surveyed said that clients were waiting for prices to rise further before putting their homes on the market. At just under 2.2 million, the number of available homes now stands at the lowest level in 12 years.  The median price for an existing home has risen by 13.5% from $188,800 a year ago, to $214,200 in June.
 
This morning, the latest new home sales data was released. Thanks in part to a boomlette in new construction and replenished inventories, new home sales rose by 8.3% in June to a 497k annual pace, the highest since May 2008. On a year-over-year basis, sales of new homes were up a staggering 38.1% …although this is a bit deceptive since volume was near historical lows a year ago and there were so few listings on the market at the time.  
 
Actually, relative supply isn’t much better today. Most of the new inventory is being quickly snapped up. In fact, the pace of construction isn’t yet keeping up with the surge in demand. As a result, the month’s supply is an extremely lean 3.9 months, matching the lowest since 2004. Predictably, prices for new homes have also been on the rise, although they were never discounted to the extent existing homes were, so the percentage increase is less. On a year-over-year basis, through June, the median selling price is up 7.4% from $232,600 to $249,700.
 
Of course, one obstacle that may hinder future home sales is higher lending rates. According to the Mortgage Bankers Association, the national average rate on a 30-year fixed loan was 4.68% as of mid-July. This is 109 basis points above the average from just two months ago …but still well below the 6% average rate during the 2003 to 2006 bubble days.             
 
MARKET INDICATIONS AS OF 11:00 A.M. CENTRAL TIME

DOW
DOWN 24 to 15,543
NASDAQ
UP 14 to 3,593
S&P 500
DOWN 2 to 1,690
1-Yr T-bill
current yield 0.12%; opening yield 0.10%
2-Yr T-note
current yield 0.34%; opening yield 0.31%
5-Yr T-note
current yield 1.38%; opening yield 1.31%
10-Yr T-note
current yield 2.59%; opening yield 2.51%
30-Yr T-bond
current yield 3.65%; opening yield 3.58%

 


JULY 2013 BLOOMBERG INTEREST RATE AND ECONOMIC SURVEYS

Note: We did not provide a survey summary last month, so the “prior survey” comparison is to May. 

Monday, July 15, 2013
 
From July 5 to July 10, 2013, Bloomberg News surveyed 70 of the nation’s top economists for their most recent opinions on the U.S. economy and interest rates. The following are the results of their responses:
 
The Interest Rate Forecast
 
Overnight Fed Funds - The MEDIAN fed funds forecast for Q3 2013 is 0.25%. The MEDIAN forecast for the next six quarters are 0.25%, 0.25%, 0.25%, 0.25%, 0.25% and 0.25%. The current fed funds target rate is a range between 0.00% and 0.25%.
 
There has been a significant change in investor expectations over the past two months.  At present time, most market participants believe the Fed will begin tapering back on its $85 billion in monthly asset purchases within the next few months. In theory, as the Fed buys fewer and fewer longer-term securities, yields should rise as the available supply increases. In anticipation of what will eventually happen, market yields have already risen. In fact, a case can be made that the amount of yield increase since early May has nullified the positive effect of QE3. Of course, the short end of the yield curve isn’t directly affected by quantitative easing, but rather by the target fed funds rate. Overnight funds have been in a range of 0.00% to 0.25% since December 2008, and there is little reason to expect this to change anytime soon. In fact, as of the June FOMC meeting, only 4 of 19 committee members anticipated raising the funds target before 2015.                      
 
2-year Treasury-note - The average 2-year yield forecast for Q3 2013 is 0.37%. The average yield forecast for the next six quarters are 0.45%, 0.54%, 0.65%, 0.77%, 0.89% and 1.07%. The current 2-yr Treasury yield is 0.33%.
 
 
Q3 2013
Q4 2013
Q1 2014
Q2 2014
Q3 2014
Q4 2014
Q1 2015
Current Survey
(July 2013)
0.37%
0.45%
0.54%
0.65%
0.77%
0.89%
1.07%
Prior Survey
(May 2013)
0.28%
0.33%
0.40%
0.46%
0.58%
0.66%
0.76%
One Year Prior
(July 2012)
0.71%
0.80%
1.05%
N/A
N/A
N/A
N/A
 
10-year Treasury-note - The average 10-year yield forecast for Q3 2013 is 2.50%. The average forecast for the next six quarters are 2.62%, 2.78%, 2.90%, 3.03%, 3.15% and 3.27%.  The current 10-year yield is 2.54%.
 
Q3 2013
Q4 2013
Q1 2014
Q2 2014
Q3 2014
Q4 2014
Q1 2015
Current Survey
(July 2013)
2.50%
2.62%
2.78%
2.90%
3.03%
3.15%
3.27%
Prior Survey
(May 2013)
1.87%
2.02%
2.21%
2.40%
2.56%
2.71%
2.87%
One Year Prior
(July 2012)
2.51%
2.67%
2.91%
N/A
N/A
N/A
N/A
 
30-year Treasury-bond - The average 30-year yield forecast for Q3 2013 is 3.58%. The average forecast for the next six quarters are 3.67%, 3.81%, 3.93%, 4.02%, 4.13% and 4.22%. The current 30-year yield is 3.59%.
 
Q3 2013
Q4 2013
Q1 2014
Q2 2014
Q3 2014
Q4 2014
Q1 2015
Current Survey
(July 2013)
3.58%
3.67%
3.81%
3.93%
4.02%
4.13%
4.22%
Prior Survey
(May 2013)
3.04%
3.16%
3.32%
3.48%
3.61%
3.72%
3.86%
One Year Prior
(July 2012)
3.54%
3.70%
3.96%
N/A
N/A
N/A
N/A
 
 The Economic Forecast
 
Unemployment Rate - The median forecast for Q3 2013 unemployment is 7.5%. The median forecast for the next five quarters are 7.3%, 7.2%, 7.1%, 6.9% and 6.8%.
 
Much of the basis for the Fed to begin scaling back, and eventually ending QE3, stems from the notion that the labor market is on solid ground.  Company payrolls increased by a respectable +195k in June, exceeding the median forecast for +165k new jobs. But similar to what happened in April, the key to the business survey report was in upward revisions to the previous two months. After recrunching the numbers, the May payroll tally was boosted from +175k to +195k, while April increased from +149k to +199k. Although the financial markets and the talking heads seem to believe the June report was very strong, this is debatable. In theory, there should be roughly +200k new workers entering the workforce each month, so even the current level of job creation is probably doing little more than absorbing the inflow. There are still 11.8 million officially unemployed.    
 
The June household survey showed the headline unemployment rate had held steady at 7.6%. The breakdown showed that +160k Americans found work in June, while +177k entered the workforce. There was also a large increase in part-time employment, while the number of full-time workers shrunk. One very significant number buried in the report was the U6 unemployment rate, which actually rose from 13.8% to 14.3%. The U6 measure includes Americans who haven’t been actively looking for a job in the past month but would like to work, part-timers who would rather work fulltime, discouraged workers, and everyone who supposedly would take a fulltime job if one were offered.  The percentage increase in U6 was the largest in over four years …and of course, most of the major movement in the U6 rate since 2009 has been downward. Thus, the case that the employment picture has brightened isn’t as clear as the nonfarm payroll increase may have indicated.  
 
 Real GDP (annualized economic growth) - The median GDP growth forecast for Q2 2013 is +1.6%. The median forecast for the next five quarters are +2.3%, +2.6%, +2.8%, +2.9% and +3.0%.
 
The final revision to first quarter GDP unexpectedly lowered the annualized rate of economic growth from +2.4% to +1.8%. The median forecast had been for an unchanged +2.4% reading. Over the past two quarters, GDP growth has averaged just 1.1%, about one-third of the 3.2% average from the past 62 years. The primary culprit in the sharp downward revision to Q1 was the critical consumer spending component, which was reduced from +3.4% to +2.6%. The business spending component was revised from +4.1% to +3.0%, while the export growth contribution was reduced from +1.1% to -0.8%. Usually GDP is such a stale number by the time it becomes final that the market largely ignores it. However, since much of the recent backup in interest rates assumes the economy will be able to sustain an acceptable rate of growth, lower economic growth readings might prompt some reconsideration. Going forward, second quarter GDP appears to be even weaker. Several months ago, the median forecast was around 1.5% to 1.6%. Following reports of lower wholesale inventories in May and disappointing June retail sales, experts have generally cut their GDP projections in half.     
 
Consumer Prices - The median annualized consumer inflation forecast for Q3 2013 is +1.5%. The median forecast for the next five quarters are +1.5%, +1.7%, +2.0%, +2.0% and 2.1%. 
 
Inflationary pressures have remained subdued, and in fact, seem to be moving lower. Headline CPI rose by just 0.1% in May, less than the median forecast of 0.2%, while core CPI exactly met expectations by rising 0.2%. On a year-over-year basis, overall CPI is up just 1.4%, while the core rate is up 1.7%. The Fed’s favorite inflation measure, core PCE, is rising at an even slower 1.1% annual rate.  Recall that the Fed has pledged to keep the funds rate low as long as inflation remains below 2.5%.  However, if the key inflation indicators continue falling, it will become increasingly difficult for the Fed to reduce the monthly amount of QE3 asset purchases and could actually increase them. The lack of inflation has helped deplete appetites for “store of value” investments. Gold prices plunged by 23%, the largest quarterly decline since modern trading began.       
 
MARKET INDICATIONS AS OF 3:30 P.M. CENTRAL TIME

DOW
UP 20 to 15,484
NASDAQ
UP 7 to 3,607
S&P 500
UP 2 to 1,682
1-Yr T-bill
current yield 0.10%; opening yield 0.10%
2-Yr T-note
current yield 0.33%; opening yield 0.34%
5-Yr T-note
current yield 1.38%; opening yield 1.42%
10-Yr T-note
current yield 2.54%; opening yield 2.58%
30-Yr T-bond
current yield 3.59%; opening yield 3.63%

 


WEAK RETAIL SALES SUGGEST WEAK Q2 GROWTH

Monday, July 15, 2013
 
RETAIL SALES DISAPPOINT IN JUNE
The significance of the monthly retail sales report is that consumer spending supposedly constitutes about 75% of economic growth in the U.S. Thus, weak retail sales indicate weak economic growth …and vice-versa. In June, retail sales rose by just 0.4%, well below the 0.8% median forecast. Much of the monthly gain was concentrated in the volatile auto sales component, which jumped 1.8%, and gasoline station sales, which rose 0.7%. If these two components are excluded, retail sales actually fell by 0.1% during the month.
 
Last week, wholesale inventories, typically a minor, often overlooked data series, showed that business stockpiles had fallen by 0.5% in May after a revised 0.1% decline in April. Most economists quickly revised their second quarter GDP forecasts downward after seeing the inventory report, and then cut forecasts further after seeing the weak retail sales data this morning. Morgan Stanley is now calling for second quarter GDP of 0.3%. Just four days earlier, they were expecting 1.0%. Vining Sparks now believes GDP could fall below 1%. A month ago, their expectation was for growth above 2%.
 
This is important news because the financial markets are anticipating the Fed will aggressively wind down their quantitative easing campaign, perhaps starting as soon as August, and begin tightening the overnight funds rate within the next 12 to 18 months. This thinking is based on the assumption that the economy is strengthening. Today’s report suggests it isn’t.                    
 
Bonds have rallied just a bit in early trading. Although Fed officials have made a mighty effort in recent weeks to reverse the bond sell-off and reclaim their dominant position in the manipulation of the bond market, investors seem to realize that the Fed will eventually have to taper purchases, it’s just a question of when they begin and how much they cut back.    

MARKET INDICATIONS AS OF 10:40 A.M. CENTRAL TIME

DOW
UP 15 to 15,480
NASDAQ
UP 4 to 3,604
S&P 500
UP 2 to 1,682
1-Yr T-bill
current yield 0.10%; opening yield 0.10%
2-Yr T-note
current yield 0.33%; opening yield 0.33%
5-Yr T-note
current yield 1.39%; opening yield 1.42%
10-Yr T-note
current yield 2.56%; opening yield 2.58%
30-Yr T-bond
current yield 3.62%; opening yield 3.63%

 


BETTER JOBS REPORT EXTENDS BOND MARKET BLEEDING

July 5, 2013
 
UPWARD REVISIONS FORTIFY JOB GAINS  
The argument that job growth isn’t strong enough to withstand a reduction in Fed stimulus, was dealt a small blow this morning as the June employment report proved stronger that most had imagined.  Company payrolls increased by a solid +195k in June, exceeding the median forecast for +165k new jobs. But similar to what happened in April, the key to the report was in upward revisions to the previous two months. After recrunching the numbers, the May payroll tally was boosted from +175k to +195k, while April increased from +149k to +199k. Before today’s release, the three-month average job gain had been a lackluster +155k. Now, it’s a more formidable +196k. Although the financial markets and the talking heads seem to believe today’s numbers are very strong, this is debatable. In theory, there should be 200k new workers entering the workforce each month, so the current level of job creation is doing little more than absorbing the inflow. There are still 11.8 million officially unemployed.    
 
The household survey showed that headline unemployment held steady at 7.6%. The breakdown showed that +160k Americans found work in June, while +177k entered the workforce. There was also a large increase in part-time employment, while the number of full-time workers shrunk. One very significant number buried in the report was the U6 unemployment rate, which actually rose from 13.8% to 14.3%. The U6 measure includes Americans who haven’t been actively looking for a job in the past month but would like to work, part-timers who would rather work fulltime, discouraged workers, and everyone who supposedly would take a fulltime job if one were offered.  The percentage increase in U6 was the largest in over four years …and of course, most of the major movement in the U6 rate during that time has been downward.
 
The significance of this morning’s report is that it reinforces the idea that the Fed will begin tapering back on its $85 billion in monthly asset purchases sometime in the upcoming months. It’s a thinly traded market this morning, but after the better-than-expected jobs report, bond yields moved sharply higher with the 5-year Treasury rising from 1.42% to 1.56%, and the 10-year from 2.50% to 2.68%. At the moment, U.S. equity markets are up slightly on the day after being bouncing around for the past 90 minutes. One positive for stocks had been announcements last night by the Bank of England (BOE) and the European Central Bank (ECB), taking a page from the Fed’s playbook, by committing to keep their own interest rates low for an “extended period of time.”  In fact, ECB President Mario Draghi added that this “extended period” did not mean just 6 or 12 months. The dramatic two-month sell-off in U.S. bonds has short-circuited carefully planned monetary policies around the world, dragging all interest rates higher. Since Europe remains in a mild recession, the drift up in rates is particularly unwelcome.
 
MARKET INDICATIONS AS OF 10:10 A.M. CENTRAL TIME

DOW
UP 29 to 15,018
NASDAQ
UP 15 to 3,459
S&P 500
UP 3 to 1,612
1-Yr T-bill
current yield 0.14%; opening yield 0.13%
2-Yr T-note
current yield 0.39%; opening yield 0.37%
5-Yr T-note
current yield 1.56%; opening yield 1.42%
10-Yr T-note
current yield 2.68%; opening yield 2.50%
30-Yr T-bond
current yield 3.65%; opening yield 3.49%

 


A QUICK NOTE ON THIS MORNING'S GDP

Wednesday, June 26, 2013
 
ECONOMIC GROWTH NOT AS STRONG AS PREVIOUSLY THOUGHT
This morning, in the final revision to first quarter GDP, growth was unexpectedly lowered from +2.4% to +1.8%. The median forecast had been for an unchanged +2.4% reading. Over the past two quarters, annualized growth has averaged just 1.1%, about one-third of the 3.2% average from the past 62 years.
 
The primary culprit in the sharp downward revision to Q1 was the critical consumer spending component, which actually grew at a less robust +2.6% rate, instead of the previously reported +3.4%. The business spending component was revised from +4.1% to +3.0%, while the export growth contribution was reduced from +1.1% to -0.8%. Usually GDP is such a stale number by the time it becomes final that the market largely ignores it. This time may be different. Much of the recent backup in interest rates had been rooted in an assumption that the economy is able to sustain an acceptable rate of growth.
 
Both stocks and bonds have rallied in early trading as investors rethink this assumption.       
 
AN EXPLICIT GUARANTEE IS PROPOSED FOR FANNIE/FREDDIE DEBT   
The 155-page GSE reform bill introduced in the Senate yesterday contained two noteworthy provisions related to current holders of Fannie and Freddie debt – 1) all existing rights and privileges of agency bond and pass-through owners would remain intact, and 2) a full-faith-and-credit guarantee would back all previously issued debt. This would essentially make the credit of Fannie and Freddie equivalent to Treasuries.    

MARKET INDICATIONS AS OF 10:30 A.M. CENTRAL TIME

DOW
UP 81 to 14,842
NASDAQ
UP 21 to 3,369
S&P 500
UP 8 to 1,596
1-Yr T-bill
current yield 0.16%; opening yield 0.14%
2-Yr T-note
current yield 0.40%; opening yield 0.41%
5-Yr T-note
current yield 1.43%; opening yield 1.49%
10-Yr T-note
current yield 2.55%; opening yield 2.61%
30-Yr T-bond
current yield 3.59%; opening yield 3.63%

 


STRONG DATA, MARKET TURMOIL AND GSE REFORM

Tuesday, June 25, 2013
 
STRONG DATA IN RECENT RELEASES
Data released over the last few days has been quite strong. Yesterday, the Dallas Fed Manufacturing Activity index climbed to +6.5 in June, up from May’s -10.5. Today, the Richmond Fed Manufacturing index rose to +8 from -2 last month. Durable Goods Orders for May were reported to increase 3.6%, topping forecasts for a 3% gain. Details within that report were strong as well with orders ex-transportation up 0.7% and the nondefense ex-aircraft capital goods orders up 1.1%, both handily beating expectations. The S&P/Case-Shiller home price index climbed another 1.72% in April and is now up 12% year-over-year. New home sales rose 2.1% in May to a 476k unit annual pace, exceeding forecasts for a 1.3% gain and reaching the highest level in nearly five years. That comes on the heels of last week’s report on existing home sales which jumped 4.2% in May to a 5.18 million unit annual pace, the highest level since November 2009. Finally, consumer confidence jumped from 74.3 to 81.4 in June, the highest level in more than five years. It will be interesting to see how well home sales and confidence hold up in the coming months as mortgage rates have risen sharply and stocks have fallen in the wake of last week’s FOMC meeting.
 
FED ROILS MARKETS
With the recent string of good data, one might expect the markets to react, but the reality is that the data has been overwhelmed by the market’s reaction to last Wednesday’s FOMC statement and Chairman Bernanke’s post-meeting press conference. In early trading yesterday, markets extended the intense post-FOMC sell-off, egged on by concerns coming out of China. But market friendly comments from a number of Fed officials supported the idea that the sell-off had gotten carried away and markets seem to have found their footing. One could even argue that this morning’s spate of strong data supports the notion that the economy is strong enough to stand on its own two legs and may not need as much central bank support.
 
GSE REFORM
Later today, Senators Bob Corker (R-TN) and Mark Warner (D-VA) are expected to introduce legislation  to replace Fannie Mae and Freddie Mac. The bipartisan proposal is the first serious attempt to address reform of the U.S. housing finance system since Fannie and Freddie were placed into conservatorship nearly five years ago. Although the details are yet to be released, previews reveal that the two GSEs would be liquidated within five years, and replaced by a Federal Mortgage Insurance Corp. (FMIC) which would sell mortgage insurance and establish a common securitization platform. Private companies would be required to take a 10% first loss position with losses beyond that level covered by the FMIC insurance. The FMIC would be allowed to cover a greater share of losses in an “unusual and exigent circumstance.” The Corker-Warner proposal should at least kick start the debate about what to do and several other competing bills are expected to be introduced. We are likely still a long ways away from resolution, but at least serious discussions are beginning.
 
MARKET INDICATIONS AS OF 10:48 A.M. CENTRAL TIME
(Compared to pre-FOMC levels from one week ago)

DOW
Up 83 to 14,742 (one week change: down 576 points and 3.8%)
NASDAQ
Up 17 to 3,337 (one week change: down 144 points and 4.1%)
S&P 500
Up 12 to 1,586 (one week change: down 66 points and 4.0%)
1-Yr T-bill
current yield 0.13%; one week ago yield 0.12%
2-Yr T-note
current yield 0.39%; one week ago yield 0.26%
5-Yr T-note
current yield 1.46%; one week ago 1.06%
10-Yr T-note
current yield 2.59%; one week ago 2.19%
30-Yr T-bond
current yield 3.60%; one week ago 3.34%

 


THOUGHTS ON MONETARY POLICY AND THE UNRULY MARKETS

Friday, June 21, 2013

UNDOING THE DAMAGE
It’s been no secret that bond market yields had risen sharply in the weeks following Bernanke’s admission on May 22nd that the Fed “…could in the next few meetings take a step down in our pace of purchases,” so the prevailing thought going into this week’s FOMC meeting was that Bernanke would try and put the genie back in the bottle, and settle the markets down. If this was indeed what he’d hoped to do, he failed.     
 
The carefully worded official statement issued at the conclusion of the meeting showed that the committee believed labor market conditions had improved, and downside risks to the economy and the labor market had “diminished.” These relatively innocuous words may have signaled to investors that the economy was close to being able to stand on its own without Fed support. However, the statement also reiterated that Committee members still expect to hold the overnight funds target near zero for at least as long as unemployment remains above 6.5% and inflation expectations hold below 2.5%. The most recent labor report showed unemployment rising from 7.5% to 7.6%, while Core PCE (the Fed’s preferred inflation measure) is rising at a very pedestrian 1.1% pace.  As a result, only 4 of the 19 FOMC participants favored tightening the funds rate before 2015.
 
But, it’s not an imminent change in the overnight funds rate that has rattled the markets; it’s the possibility that the Fed will reduce some portion of the $85 billion in Treasuries and mortgage-backed securities it has been buying every month to force longer-term interest rates downward. Clearly, having now amassed a $3.5 trillion (and growing) security portfolio, most inherently understand that purchase support will eventually end; it’s simply a question of when. In just the past month, what had been a date somewhere on the far horizon seems to suddenly be within eyesight. Committee members addressed this in saying they will continue to purchase $45 billion in Treasuries and $40 billion in mortgage-backed securities, but were prepared to reduce or even increase those purchases depending on the job market and inflation. 
 
Unfortunately, the idea that purchases could potentially increase was ignored, while Bernanke’s news conference admission that the committee would like to see 7% unemployment before ending its asset purchase program, back-of-the-napkin calculations suggested a complete end to QE3 by next spring, which was much sooner than most had probably guessed prior to that point.  In response, bond yields jumped, the stock market plunged, the dollar soared and commodity prices tumbled. In hindsight, it’s hard to figure what the markets were hoping to hear from Bernanke. There was never any expectation that asset purchases would continue indefinitely. The Fed has always emphasized that monetary policy would be data-dependent. Admittedly, recent data has been better-than-expected, but there are still 12 million unemployed workers and GDP growth is still well below historical norms; this despite being fueled by the same massive stimulus that the Fed will eventually end. 
 
Ironically, the sub-par growth that has taken place will certainly be threatened by the recent rise in interest rates. The 30-year Treasury bond rose to 3.58% this afternoon, a new 21-month high, while the 10-year Treasury note climbed to 2.54%, up from 1.62% in early May, and the highest level in 22 months.
 
As market rates rise, so do mortgage lending rates. Last week’s average 30-year, fixed rate according to Bankrate.com was 4.24%; a 75 basis point increase in just over a month.  Although the economy and housing in particular, have shown improvement, higher rates suggest fragile improvement could dissipate in coming months, thereby resurrecting a need for continued stimulus. The idea that the Fed could potentially reduce purchases one month, and then increase them down the line has always been a possibility that the markets don’t seem to be considering. This isn’t necessarily the beginning on a long, never-ending upward trek.     
 
Stocks got hammered on Bernanke’s comments with the DOW down 206 and 353 points on Wednesday and Thursday. Gold has been crushed and bonds have been slammed. In the midst of mass selling, the question on many people’s minds is where did the money go? It’s probably reasonable to believe that much of it’s in cash, but with cash paying zero, it’s a painful place to hide for too long. 
 
Economic historians are as powerless as anyone right now. It’s become somewhat of a cliché, but the truth is, these are unchartered waters. One important thing to keep in mind is that big money eventually has to be invested somewhere, and the current choices are all pretty bad.  In relative terms, domestic bonds should look fairly attractive at this point, although in the throes of a panicky market, the case isn’t easy to make.                       

MARKET INDICATIONS AS OF 3:20 P.M. CENTRAL TIME

DOW
UP  41 to 14,799
NASDAQ
DOWN 7 to 3,357
S&P 500
UP 4 to 1,592
1-Yr T-bill
current yield 0.12%; opening yield 0.11%
2-Yr T-note
current yield 0.36%; opening yield 0.33%
5-Yr T-note
current yield 1.42%; opening yield 1.30%
10-Yr T-note
current yield 2.54%; opening yield 2.41%
30-Yr T-bond
current yield 3.58%; opening yield 3.51%

 


NEXT WEEK'S FOMC NEWS CONFERENCE IS CRITICAL TO NEAR-TERM MARKET DIRECTION

Friday, June 14, 2013
 
BERNANKE EXPECTED TO INDIRECTLY ADDRESS THE RECENT RISE IN MARKET YIELDS
Financial market primary attentions this week were again squarely focused on the Fed. Widespread expectations that Fed officials will begin scaling back on the massive amount of Treasuries and mortgage-backed securities purchased each month as part of their third quantitative easing program has prompted a significant back-up in interest rates. The 10-year Treasury yield climbed from a recent low of 1.62% on May 2nd to a 14-month high of 2.23% on Wednesday. Mortgage lending rates have risen along with Treasuries, with the MBA 30-year index rising to 4.15% last week from 3.59% just a month earlier. Higher loan rates have a negative effect on home affordability, and one of the Fed’s primary goals with QE has been to provide fuel to the housing recovery. So, the Fed is none too pleased with the market enacting its own de facto tightening before the Fed has actually begun.   
 
In response, noted Fed-insider Jon Hilsenrath wrote in a Wall Street Journal piece Thursday that Bernanke will likely take a stab at correcting the erroneous market perception at the post-FOMC news conference next Wednesday. Hilsenrath reminded readers that Fed members have long insisted reductions in asset purchases would be gradual, and that rate hikes would begin well after the quantitative easing has ended. The Hilsenrath article had a dramatic effect on the financial markets, quickly sending bond yields lower and stocks higher. If Bernanke is successful at convincing the markets next Wednesday that the Fed is in no hurry, bonds could rally further.
 
A NEW PLAN FOR FREDDIE AND FANNIE
In other news, Virginia Democrat Senator Mark Warner and Tennessee Republican Senator Bob Corker have posted a bill that would effectively wind down Fannie Mae and Freddie Mac over a five-year period and create a new, presumably safer, model involving private companies. In the new plan, private companies would purchase mortgages from loan originators and package them together into securities that would then be sold to investors. These companies would provide the first level of loss support.   
 
The maximum loan amount under the “Corker bill” would be reduced from $625k to $417k over a six-year period, and the existing loan portfolios for Fannie and Freddie would be required to shrink by 15% each year.  The Federal Housing Finance Agency (FHFA), currently serving as the federal regulator and conservator for Fannie and Freddie, would be replaced with a new agency, called the Federal Mortgage Insurance Corporation (FMIC), which would charge a guaranty fee to fund insurance on conforming loans. FMIC would be responsible for setting loan standards, and providing methods and procedures for securitization. The bill proposes that all of the outstanding mortgage debt would continue to be guaranteed by the Treasury, and several analysts have noted that both Fannie and Freddie would retain their existing Preferred Stock Purchase Agreements under the new plan, with current remaining borrowing capacities of $118 billion and $141 billion still available to protect senior bond holders. 
 
One critical thing to note is that most believe this bill will face a difficult road to passage. The Senate Banking Committee is reportedly working on a plan of its own, as are House Republicans. Treasury Secretary Jack Lew has met with housing experts to discuss still more options. No doubt, everyone would love to leave their fingerprints on a bill that history might credit with patching the holes in the flawed Fannie/Freddie model.      
 
S&P UPGRADES U.S. OUTLOOK
Finally, on Monday, Standard & Poor's boosted the United States government outlook from "negative" to “stable,” saying the chances of a further downgrade are now "less than one in three." S&P was the only one of the three big credit rating agencies to have lowered the sovereign debt rating of the U.S. below AAA when it assigned a rating of AA+ in August 2011. Fitch and Moody’s still maintain their AAA ratings, but continue to warn that the inability of congressional leaders to reduce future deficits could still prompt a future downgrade.  Reasons for the revised S&P outlook include recent tax hikes and expenditure cuts, as well as much stronger-than-expected tax receipts and large revenue contributions from Fannie Mae and Freddie Mac. All of these factors have played a role in reducing estimates for future government expenditures.

MARKET INDICATIONS AS OF 10:45 A.M. CENTRAL TIME

DOW
DOWN 75 to 15,102
NASDAQ
DOWN 15 to 3,429
S&P 500
DOWN 4 to 1,632
1-Yr T-bill
current yield 0.12%; opening yield 0.12%
2-Yr T-note
current yield 0.27%; opening yield 0.28%
5-Yr T-note
current yield 1.01%; opening yield 1.06%
10-Yr T-note
current yield 2.11%; opening yield 2.15%
30-Yr T-bond
current yield 3.28%; opening yield 3.32%

 


MAY PAYROLLS ARE ... OKAY

Friday June 7, 2013

PAYROLLS RISE ALONG WITH UNEMPLOYMENT
The theme of the financial markets for the past month or so is that the U.S. economy is on the brink of self-sustainability, suggesting that the Fed may be on the verge of pulling back on the QE throttle. This much is true – the Fed will curtail its $85 billion in monthly asset purchases, the question is when. A recent survey of 21 Primary Dealer firms show a majority do not expect the Fed to alter its course before the end of the year. Still, with a few hawkish Fed officials suggesting that the FOMC could begin tapering as soon as this summer and several prominent economists thinking the target date is September, the bond market has begun a de facto tightening of its own with intermediate- and long-term bond yields hovering near their highs for the year. But when all is said and done, the actual economic data has to corroborate the anticipated economic strength. Fed members Daniel Tarullo and Charles Evans have both indicated it would take six months of 200k payroll gains for the Fed to alter its policy stance. This morning, the jobs report data fell a bit short of that.
 
According to the business survey, nonfarm payrolls rose by 175k in May. This was 12k over the median forecast, but 12k in downward revisions to the two prior months put the overall increase right on target. Over the past three months, nonfarm payrolls have now averaged a lackluster 155k.   
 
The gains in May were concentrated in the business and professional services category (+57k, with nearly half of these being low-paying temporary jobs), leisure and hospitality (+43k) and health care (+11k).  Job losses were found in the manufacturing sector (-8k) and the federal government (-13k). A large percentage of the federal cuts were at the post office, as 3,800 retiring postal workers were simply not replaced.  
 
The unemployment rate rose from 7.5% to 7.6%. Although this is a negative headline, the underlying reason for the rise is somewhat positive as more people entered the workforce. Recall that the unemployment rate is calculated from a separate phone survey of U.S. households. This household survey showed 319k Americans found work in May, while 420k were encouraged enough to begin looking or resume their abandoned search. The broader U6 measure of unemployment, which includes involuntary part-time workers, discouraged workers, and everyone who would theoretically accept a fulltime job if one were offered, eased down from 13.9% to 13.8% last month. This measure peaked at 17.1% three years ago.   
 
Some of the minor numbers buried in the labor report suggest that employment conditions might be a bit weaker than the headlines. Average hourly earnings rose by a single penny from $23.88 to $23.89 and the average workweek was unchanged at 34.5 hours.
 
The bottom line is that labor conditions are okay, but probably not supportive of a near-term change in Fed policy. The equity markets are threatening a third straight weekly loss, but have rebounded in early trading suggesting that the week could possibly end on an up-note.   
 
MORTAGE RATES RISE  
As longer-term interest rates climb in anticipation that the Fed will eventually curtail its bond purchase program, mortgage lending rates have followed the upward trek. For the week ending May 31, the average 30-year fixed rate mortgage climbed by 17 basis points to 4.07%. In just the past month, 30-year mortgage loan rates have risen by 48 basis points, topping the 4% mark for the first time in over a year. In response, the Mortgage Bankers Association weekly application index fell by 11.5%. Refinancing activity was affected the most, with refi applications plunging 15% during the week, now representing just 68% of the total index, the lowest in nearly two years. Housing has given the U.S. economy a nice boost in past year, but rising home prices combined with higher loan rates are likely to slow the pace later this year. The Fed will have a say in how much the pace slows.    

MARKET INDICATIONS AS OF 9:00 A.M. CENTRAL TIME

DOW
UP 124 to 15,165
NASDAQ
UP 20 to 3,444
S&P 500
UP 6 to 1,629
1-Yr T-bill
current yield 0.13%; opening yield 0.13%
2-Yr T-note
current yield 0.29%; opening yield 0.29%
5-Yr T-note
current yield 1.03%; opening yield 1.01%
10-Yr T-note
current yield 2.12%; opening yield 2.08%
30-Yr T-bond
current yield 3.29%; opening yield 3.25%

 


SEC VOTES TO PROPOSE ADDITIONAL MONEY MARKET REFORMS

Wednesday, June 5, 2013

FLOATING NAV WOULD APPLY TO PRIME FUNDS
Earlier today the Securities and Exchange Commission unanimously voted on a recommendation to propose additional money market reforms. The SEC will propose two alternatives. The first would require a floating net asset value (NAV) for institutional prime money market funds. Such funds would no longer be allowed to use amortized cost to value their funds, or round to the nearest penny. Instead, the funds would have to be marked to market daily and rather than trade at a stable $1 per share, would trade at current market value, similar to other types of mutual funds. Government and retail money market funds would be exempted from this requirement. Government funds are defined as those that invest at least 80% of their assets in cash, government securities, or repurchase agreements backed by government securities, while retail funds would be those that limit shareholder redemptions to no more than $1 million per business day.
 
The second alternative would retain the stable $1 NAV but would impose liquidity fees and redemption gates. If a prime funds level of weekly liquid assets, those that mature within seven days, were to fall below 15% of total assets (30% is required by current rules), then the fund have to impose a 2% liquidity fee on all redemptions. There is some flexibility here as the fund’s board of directors could impose a lesser fee if it was determined that a 2% fee was not in the funds best interest. The fund would also be allowed to temporarily suspend redemptions for up to 30 days.
 
The SEC also said it would consider combining the two alternatives and implementing both, in which case prime funds would have a floating NAV, as well as potential liquidity fees and redemption gates. The proposals also include some additional disclosure, reporting and stress testing requirements.

THIS IS A PROPOSAL ONLY
It is important to note that this is not a new regulation and nothing has been implemented yet. The proposals have been widely discussed and debated and were not unexpected. The SEC has not yet released the formal proposal, which is rumored to run 700 pages. Once it is released, there will be a 90-day public comment period. At the end of this period, the SEC will review the comments, could revise or issue a new proposal, and ultimately will have to vote again before implementation could begin. There is likely to be a lengthy implementation period as well, so we are still a long way from any additional reforms actually going into effect.
 
Although these reforms are generally expected to be adopted in some form, after reading the opening statement from one Commissioner, I’m not certain that passage is a foregone conclusion, particularly the floating NAV alternative. Also, please note that these reforms are directed only at prime money market funds. Government funds have been excluded. Further, as it stands right now, the proposed reforms would not apply to, and would not have a direct impact on, local government investment pools.
 

WEAK ISM MANUFACTURING REPORT PUTS BRAKES ON BOND ROUT

Monday, June 3, 2013
 
ISM DROPS BELOW 50
The ISM Manufacturing index declined for a third consecutive month in May, falling to 49.0 and signaling contraction in the manufacturing sector. This was the weakest reading since June 2009. The details were every bit as bad as the headline as most of the major components were below 50 as well, with production at 48.6, new orders at 48.8 and prices paid at 49.5. Employment was the only major component that managed to stay above 50, clinging to a 50.1 reading. Federal budget cuts and weak overseas demand were cited as contributing to the weakness. Today’s ISM report seems to contradict Friday’s Chicago purchasing manager’s report, which had jumped sharply from 49.0 in April to 58.7 in May. The Chicago number likely reflects strength in the automotive sector of the economy, which is doing quite well. This morning both Ford and Chrysler reported double digit year-over-year sales gains in May as U.S. auto sales came in above estimates at 15.3 million annual units.
 
Today’s report highlights one of the many conundrums facing policy makers, economists, and investors. For every good data print that comes out, there seems to be an equal and offsetting bad data print a day or two later. While it seems clear that the economy is gradually improving, the pace of that improvement is woefully slow, and it has been difficult to sustain any momentum.

TAPER INSPIRED BOND ROUT INTERRUPTED
The weak ISM report has managed to put a stop to the bond selling, at least temporarily. Bond markets have been unsettled by all the talk of the Fed tapering its quantitative easing program. A steady stream of Fed speakers have repeatedly suggested they could begin to slow the pace of purchases in the coming months. However, markets also seem to be ignoring all of the qualifiers that come along with those statements. Those qualifiers require sustained improvement in the economy, especially the labor market.
 
There are several economic indicators due out this week, but the main focus will be on Friday’s employment report. The current forecast calls for a 168k gain in non-farm payrolls and a 7.5% unemployment rate. Following on the heels of today’s lousy ISM report, a disappointing employment report would likely put an end to the talk of near term tapering. On the other hand, better than expected payroll data will make today’s ISM number a distant memory.
 
Stocks are generally higher on the day following Friday’s steep declines. Bond prices have been jumping around quite a bit thus far, but are close to opening levels at the moment.

MARKET INDICATIONS AS OF 2:06 P.M. CENTRAL TIME

DOW
Up 80 to 15,195
NASDAQ
Down 8 to 3,448
S&P 500
Up 2 to 1,633
1-Yr T-bill
current yield 0.13%; opening yield 0.13%
2-Yr T-note
current yield 0.29%; opening yield 0.29%
5-Yr T-note
current yield 1.03%; opening yield 1.02%
10-Yr T-note
current yield 2.13%; opening yield 2.13%
30-Yr T-bond
current yield 3.27%; opening yield 3.28%

 


 
MAY 2013 INTEREST RATE AND ECONOMIC SURVEYS 
 
Thursday, May 23, 2013
 
From May 3 to May 9, 2013, Bloomberg News surveyed 76 of the nation’s top economists for their most recent opinions on the U.S. economy and interest rates. The following are the results of their responses:
 
The Interest Rate Forecast
 
Overnight Fed Funds - The MEDIAN fed funds forecast for Q2 2013 is 0.25%. The MEDIAN forecast for the next six quarters are 0.25%, 0.25%, 0.25%, 0.25%, 0.25% and 0.25%. The current fed funds target rate is a range between 0.00% and 0.25%.
 
The extreme short end of the yield curve will continue to be anchored by the overnight fed funds rate, which has remained at the same 0.00% to 0.25% target range for nearly 4½ years. The longer end of the yield curve has been driven primarily by Fed asset purchases, or “quantitative easing.” The overnight funds rate will probably be held steady until the unemployment rate drops below 6.5% for at least a period of months.  However, there has been recent chatter over when Fed officials will begin scaling back their $85 billion per month asset purchase program which has resulted in a $3.3 trillion portfolio of securities. The intended strategy has been to reduce the market supply of government securities relative to market demand, driving down interest rates while redirecting investor funds into higher yielding alternate types of investments. One of the primary beneficiaries of Fed policy is the stock market. With what seems like equity market record highs on a daily basis, investors are now speculating on when the Fed will stop adding booze to the punch.  It is important to realize the pace of asset purchases will slow, stop and probably reverse at some point, but the effect will be felt out along the maturity curve. Few anticipate a marked change in short yields anytime soon.           
 
2-year Treasury-note - The average 2-year yield forecast for Q2 2013 is 0.28%. The average yield forecast for the next six quarters are 0.33%, 0.40%, 0.46%, 0.58%, 0.66% and 0.76%. The current 2-yr Treasury yield is 0.24%.
 
 
Q2 2013
Q3 2013
Q4 2013
Q1 2014
Q2 2014
Q3 2014
Q4 2014
Current Survey
(May 2013)
0.28%
0.33%
0.40%
0.46%
0.58%
0.66%
0.76%
Prior Survey
(April 2013)
0.29%
0.36%
0.43%
0.53%
0.63%
0.70%
0.83%
One Year Prior
(May 2012)
0.71%
0.84%
0.97%
N/A
N/A
N/A
N/A
 
10-year Treasury-note - The average 10-year yield forecast for Q2 2013 is 1.87%. The average forecast for the next six quarters are 2.02%, 2.21%, 2.40%, 2.56%, 2.71% and 2.87%.  The current 10-year yield is 2.03%.
 
Q2 2013
Q3 2013
Q4 2013
Q1 2014
Q2 2014
Q3 2014
Q4 2014
Current Survey
(May 2013)
1.87%
2.02%
2.21%
2.40%
2.56%
2.71%
2.87%
Prior Survey
(April 2013)
1.95%
2.11%
2.25%
2.31%
2.42%
2.58%
2.72%
One Year Prior
(May 2012)
2.82%
2.94%
3.10%
N/A
N/A
N/A
N/A
 
30-year Treasury-bond - The average 30-year yield forecast for Q2 2013 is 3.04%. The average forecast for the next six quarters are 3.14%, 3.32%, 3.48%, 3.61%, 3.72% and 3.86%. The current 30-year yield is 3.22%.
 
Q2 2013
Q3 2013
Q4 2013
Q1 2014
Q2 2014
Q3 2014
Q4 2014
Current Survey
(May 2013)
3.04%
3.16%
3.32%
3.48%
3.61%
3.72%
3.86%
Prior Survey
(April 2013)
3.12%
3.25%
3.40%
3.52%
3.68%
3.81%
3.90%
One Year Prior
(May 2012)
3.76%
3.89%
4.03%
N/A
N/A
N/A
N/A
 
 
The Economic Forecast
Unemployment Rate - The median forecast for Q2 2013 unemployment is 7.6%. The median forecast for the next five quarters are 7.5%, 7.4%, 7.3%, 7.2% and 7.1%.
 
The April employment report was somewhat of a game changer, as the data turned out to be quite a bit stronger than expected. The Bureau of Labor Statistics reported the economy had added 165k jobs during the month, topping the Bloomberg median forecast for a gain of 140k.  More importantly, upward revisions to the prior two months added an additional 114k jobs to the tally. Recall that the change in non-farm payrolls for March had initially been reported at +88k, a disappointing figure that kicked off a month of generally softer data, raised concerns about the impact of the budget sequestration, and temporarily squelched talk of QE3 tapering. The revised March increase was a more palatable 138k. Payroll gains for February, were revised upward from 268k to 332k. When the prior month revisions are added to the April number, a total of 290k new jobs suddenly appear. For the first five months of 2013, 783,000 jobs have been added to company payrolls for an average of almost 196k per month. The other good news from the April report was that unemployment fell from 7.6% to 7.5%, the lowest level since December 2008. Of course, the labor market participation rate is still near a 30-year low, so the simple fact is that fewer people are looking for work.  
 
Real GDP (annualized economic growth) - The median GDP growth forecast for Q2 2013 is +1.55%. The median forecast for the next five quarters are +2.2%, +2.6%, +2.7%, +2.85% and +3.0%.
 
The Commerce Department reported that the U.S. economy grew at a 2.5% annualized rate in the initial quarter of 2013. This would appear to be a significant improvement from the fourth quarter of 2012 when GDP rose at a revised pace of just 0.4%, but it was generally seen as a disappointment since it fell short of the median forecast of 3.0%. The Q1 number was heavily influenced by higher business inventory accumulation which added a full percentage point to the overall number. If the volatile inventory accumulation factor is excluded from the calculation, annualized Q1 GDP rose by just 1.5%, a deceleration from the inventory-adjusted 1.9% pace of Q4 2012.
 
It’s probably best to not focus on quarter-to-quarter volatility, since waxing and waning inventory levels have a tendency to distort GDP in the short run. It’s more appropriate to look back on the year as a whole. In 2012, the economy grew at a 2.2% rate, improved from 1.9% in 2011, but well below the 65-year average of 3.2%. The current median forecast for second half growth this year is approximately 2.5%.       
 
Consumer Prices - The median annualized consumer inflation forecast for Q2 2013 is +1.7%. The median forecast for the next five quarters are +1.7%, +1.8%, +1.9%, +2.0%, and 2.1%. 
 
The headline consumer price index (CPI) actually fell by 0.4% in April, pushing the year-over-year CPI growth down from 1.5% to 1.1%. The decrease was mainly attributed to an 8.1% drop in gas prices. Core CPI, which factors out both food and energy prices, rose by just 0.05% (rounded up to +0.1%), the lowest reading in two-and-a-half years. This pushed the year-over-year rate of core CPI growth down to +1.7%, the lowest since June 2011. The main contributors to shrinking core inflation were the smallest increase in medical care costs in 40 years, and a 15-year low in clothing prices.
 
The headline producer price index (PPI) also showed the effects of lower gasoline prices, falling by 0.7% in April, the biggest drop in three years. On a year-over-year basis, headline PPI is now running at an extremely low 0.6% pace. Three years ago, the annual rate of producer inflation was 6.6%. Core PPI is running at a 1.7% annual pace, equaling a two-year low. Based on the shrinking PPI and CPI readings, core personal consumption expenditures (PCE) is likely hovering around 1.0%, an all-time low, and less than half of the Fed’s 2% inflation target. It is also well below the 2.5% inflation rate that the Fed has indicated as the point above which it will consider a change in monetary policy. This suggests that the Fed will remain accommodative for a longer period of time, although the Fed’s $3.3 trillion security portfolio seems to be making a number of FOMC members a bit uneasy.           
 
 
MARKET INDICATIONS AS OF 3:30 P.M. CENTRAL TIME
DOW
DOWN 13 to 15,295
NASDAQ
DOWN 4 to 3,459
S&P 500
DOWN 6 to 1,650
1-Yr T-bill
current yield 0.10%; opening yield 0.10%
2-Yr T-note
current yield 0.24%; opening yield 0.24%
5-Yr T-note
current yield 0.89%; opening yield 0.90%
10-Yr T-note
current yield 2.02%; opening yield 2.04%
30-Yr T-bond
current yield 3.19%; opening yield 3.22%
   
     

STOCK AND BOND PRICES TUMBLE AS FED WORDS ADD TO THE UNCERTAINTY

Wednesday, May 22, 2013
 
FINANCIAL MARKETS SEARCH FOR FED CLUES
The primary focus of the financial markets following an unexpectedly strong April jobs report earlier this month has centered on when the Fed will taper, or end, the latest round of quantitative easing. The $85 billion in monthly Treasury and mortgage-backed security purchases continue to swell the Fed’s massive $3.3 trillion portfolio. Many fear that the U.S., already in uncharted territory, will eventually find itself battling inflation if purchases are not eventually reined in. (Ironically, the more pressing fear, at the moment, is deflation rather than inflation.) A  number of Fed members have recently weighed in on the QE3 topic including Philadelphia Fed President Charles Plosser, who has suggested that asset purchases could be reduced as soon as the June FOMC meeting, and San Francisco Fed President John Williams, who believes the FOMC could potentially reduce purchases “as early as this summer.”
 
This morning, in a much anticipated speech to members of the Congressional Joint Economic Committee, Fed Chairman Bernanke testified that a premature end to the Fed’s accommodative monetary policy “would carry a substantial risk of slowing or ending the economic recovery and causing inflation to fall further.” Bernanke went on to say that “with unemployment well above normal levels and inflation subdued, fostering our congressionally mandated objectives of maximum employment and price stability requires a highly accommodative monetary policy.” The hint that the Fed is probably on hold for the foreseeable future prompted a significant stock market rally with the DOW trading up as high as 150 points by mid-morning. Then came the Q&A, and the stock market rally promptly fizzled as Bernanke admitted that, “If we see continued improvement, and we have confidence that is going to be sustained, we could in the next few meetings take a step down in our pace of purchases.”   
 
The minutes to the last FOMC meeting were released this afternoon, and the language was just as mixed as would be expected given the complete uncertainty of future Fed policy.  “Most (committee members) observed that the outlook for the labor market had shown progress” since the latest round of asset purchases began in September, “…but many participants indicated that continued progress, more confidence in the outlook, or diminished downside risks would be required before slowing the pace of purchases would become appropriate.” The bottom line to the minutes was that monetary policy would continue to be data dependent.
 
Apparently, the market sifted through all of today’s testimony, questions and answers, and minutes and concluded that the balance was tilted toward some tapering later this year. As a result, stocks are now down on the day, with the DOW experiencing a swing of over 250 points from top to bottom, while bond prices have dropped, pushing long yields higher, with the 10-year Treasury climbing above 2% for the first time in nine weeks.
 
It isn’t clear that anything new has been revealed today, but the markets seemed to have honed in on the notion that the high rate of Fed balance sheet growth can’t be sustained indefinitely.        

MARKET INDICATIONS AS OF 2:35 P.M. CENTRAL TIME

DOW
Down 100 to 15,287
NASDAQ
Down 51 to 3,451
S&P 500
Down 15 to 1,654
1-Yr T-bill
current yield 0.10%; opening yield 0.10%
2-Yr T-note
current yield 0.25%; opening yield 0.24%
5-Yr T-note
current yield 0.89%; opening yield 0.82%
10-Yr T-note
current yield 2.03%; opening yield 1.93%
30-Yr T-bond
current yield 3.21%; opening yield 3.13%

 


 
INFORMATION UPDATE ON PROPOSED MONEY MARKET FUND REFORM
 
Wednesday, May 15, 2013
This update is in response to recent concern that potential changes to SEC money market fund rules could have a significant and immediate negative effect on money fund and pool investors.   
 
THE NEXT PHASE OF SEC REFORM
The unexpected Lehman Brothers bankruptcy in September of 2008 caused “the Reserve Fund,” which at the time was the nation’s oldest money market fund, to “break the buck,” igniting a panicky exodus from money market funds across the nation. In response, the SEC passed a series of reforms in 2010 that established specific cash and liquidity requirements, tightened underlying portfolio credit standards, set a weighted average life limit of 120 days and lowered the maximum weighted average maturity from 90 to 60 days.      
 
Although these generally agreeable reforms, along with a recovering economy, have resulted in a four-year period of relative money market tranquility, the SEC is determined to buffer the markets from future disruptions related to possible issuer defaults or rising interest rates. Both of these situations would lower the underlying portfolio values of money funds and create an unrealized loss position. Under the current “constant dollar” structure, investors are still permitted to withdraw their entire balance at will, without sharing in portfolio losses. This realization has a tendency to result in “runs” during periods of market turmoil as investors seek to quickly withdraw their money before fund managers restrict redemptions. Mass withdrawals then force managers to liquidate security holdings, further exacerbating the decline in portfolio value.
 
Former SEC Chairman Mary Shapiro’s previous proposal, which included unpopular capital buffers and redemption limits on funds, as well as a wide scale switch to a floating net asset value, was rejected by SEC commissioners last August.     
 
The latest (draft) proposal by the SEC would also do away with the constant dollar or $1 net asset value, in favor of a floating net asset value. However, this time it would only apply to “prime” funds, which hold riskier assets such as commercial paper. More conservative government funds would be permitted to continue using the constant dollar valuation.
 
There are several things worth mentioning here – the first of which is that this 500-page proposal has not actually been released to the public. Instead, SEC commissioners, as they did in August, will have a 30-day review period to amend, alter or reject the proposal. If accepted by a majority vote of the five commissioners, it will be put out for public comment, and then voted on again.  If the proposal is ultimately accepted in its current form, the implementation period would be “lengthy,” presumably a year or more. Given the extremely short duration of money market funds, there should be plenty of time for investors to explore alternatives.
 
The bottom line remains the same. If an investor wants to earn additional yield, he or she will have to accept additional risk. The latest SEC proposal clarifies that the risk associated with prime money funds should fall on the individual investor. It has been suggested that the $2.6 trillion money market fund industry will be significantly transformed by the decision, but this assumes investors have somewhere else to go with their money. The reality is that if investors flee prime funds and crowd into government funds, there will be even more demand for government securities, driving short yields down even further. If investors shun money funds and chose to manage their own liquidity, they’d still be competing for the same limited supply of securities at historically low rates.
 
As far as public funds investment pools are concerned, they haven’t been part of the initial discussions. In the event that the latest SEC proposal passes, it’s far from clear how 2a7-like pools will be affected; but again, there is likely to be adequate time to consider alternatives when, and if, the time comes.
  
MARKET INDICATIONS AS OF 11:40 A.M. CENTRAL TIME

DOW
UP 80 to 15,296
NASDAQ
UP 13 to 3,475
S&P 500
UP 9 to 1,659
1-Yr T-bill
current yield 0.11%; opening yield 0.11%
2-Yr T-note
current yield 0.24%; opening yield 0.25%
5-Yr T-note
current yield 0.85%; opening yield 0.86%
10-Yr T-note
current yield 1.97%; opening yield 1.97%
30-Yr T-bond
current yield 3.20%; opening yield 3.19%

 


 RETAIL SALES SHOW UNEXPECTED GAIN IN APRIL 

Monday, May 13, 2013
 
CONSUMER SPENDING PROVES BETTER THAN EXPECTED  
Retail sales rose by 0.1% in April, which sounds like a weak number except that March retail sales were down 0.5%, and the median forecast for April had been for a 0.3% decrease. And honestly, the April numbers were quite a bit stronger below the surface, because gasoline station sales, which are a large component of the overall number, fell by 4.7%, the biggest drop since December 2008. Remember that one quirk of the retail sales report is that it isn’t price adjusted, so service station sales rise and fall along with gas pump receipts, and pump receipts are primarily a function of gas prices, which generally fell in April. When the volatile gas component is excluded, April sales rose by a more respectable 0.7%.
 
The “key control group,” which excludes vehicle, service station and home improvement store sales, and is used to calculate GDP, rose by a solid 0.5% in April, while February was revised upward from +0.3% to +0.5%, and March from -0.2% to +0.1%.
 
The significance of today’s numbers are that since the U.S. economy is primarily driven by the consumers, and consumer spending was stronger than previously thought, the economy seems to be in a bit better shape than most had assumed. In response, Morgan Stanley quickly revised its first quarter GDP estimate upward from 2.5% to 2.8%, and its early second quarter estimate up from 1.2% to 1.5%.  
 
Short yields are virtually unchanged from opening levels, but longer yields have drifted higher.  

MARKET INDICATIONS AS OF 2:30 P.M. CENTRAL TIME

DOW
DOWN 33 to 15,085
NASDAQ
UNCHANGED at 3,436
S&P 500
DOWN 1 to 1,632
1-Yr T-bill
current yield 0.11%; opening yield 0.11%
2-Yr T-note
current yield 0.24%; opening yield 0.24%
5-Yr T-note
current yield 0.82%; opening yield 0.81%
10-Yr T-note
current yield 1.92%; opening yield 1.90%
30-Yr T-bond
current yield 3.13%; opening yield 3.10%

 


FNMA PROFIT HAS IMPLICATIONS FOR U.S. DEBT CEILING

Thursday, May 9, 2013
 
FANNIE POSTS LARGEST QUARTERLY PRE-TAX INCOME IN ITS HISTORY
The improving economy and recovery in the housing market is paying huge dividends. Yesterday we wrote about Freddie Mac’s first quarter results, which showed net income of $4.6 billion. Not to be outdone, today Fannie Mae reported first quarter pre-tax income of $8.1 billion, the largest quarterly pre-tax income in the company’s history. To put those figures in perspective, consider that Wells Fargo, the nation’s largest mortgage lender, earned a record $5.2 billion in Q1, while GE earned $4.1 billion, Google $3.35 billion, and Apple $9.5 billion. Fannie and Freddie are in an exclusive club indeed. The after-tax results for Fannie are even better, but require some explanation.
 
During the recession Fannie and Freddie were posting huge losses. For income tax purposes those losses can be used to offset future earnings, reducing the tax liability in future periods. This is similar to the treatment of capital losses for individuals, where losses on the sale of stocks in one year can be used to offset gains in subsequent years. This so-called deferred tax asset, or “DTA” is worthless as long as the companies are losing money, since they would have no income to offset. But once the companies are profitable, they can use those losses from prior periods to offset current and future income, and thus reduce the amount of income taxes they must pay. Now that Fannie and Freddie are profitable again, and expected to remain profitable, the value of this DTA has suddenly gone from zero to billions of dollars. Fannie Mae has determined that the present value of this DTA is $50.6 billion and they have added that amount to Q1 earnings, giving them after-tax net income of $58.7 billion in the first quarter. Freddie Mac is widely expected to release their DTA next quarter, with a value around $30 billion.
 
It gets even more interesting. Since the two GSE are required to turn over all profits to the U.S. Treasury, Fannie Mae will be making a payment of $59.4 billion by June 30th. That’s on top of the $7 billion Freddie Mac will hand over. The great irony of course is that the two GSEs get to avoid paying all of this income tax to the IRS. Instead, they’ll pay all of their income to the Treasury. With both companies essentially owned operated by the government, it’s really just a big shell game. I find it interesting that despite all the uproar over the bail-out of Fannie and Freddie, and the worry that their takeover would cost taxpayers hundreds of billions of dollars, the government has essentially taken over two of the nation’s most profitable companies.
 
To date, Fannie has taken $117 billion in aid from the government and following this payment, will have returned $95 billion in dividends. Freddie has taken $72.3 billion and paid $29.6 billion in dividends. If profits continue at the current pace, and assuming Freddie releases their DTA in Q2, the government stands to recoup its investment within the next 12 to 18 months.

IMPLICATIONS FOR DEBT CEILING DEBATE
The massive payments Fannie and Freddie will make are having an impact on the Treasury market, the budget situation, and the debt ceiling debate. Rising tax revenues were already starting to reduce the amount of borrowing by the U.S. Treasury, particularly in short-term Treasury Bills which are already in short supply. The combined $67 billion payments will further reduce the Treasury’s borrowing needs. The reductions could be partially offset by additional issuance from the agencies, as Fannie and Freddie look to raise the cash necessary to make the dividend payments.
 
The debt ceiling, which has been temporarily suspended, will come back into force on May 19th. Previously, it was thought that the government would run out of borrowing capacity sometime in August. Now, thanks to these dividend payments, that date could potentially be extended to October, or possibly even further.

MARKET INDICATIONS AS OF 2:25 P.M. CENTRAL TIME

DOW
Down 10 to 15,095
NASDAQ
Up 3 to 3,416
S&P 500
Down 6 to 1,627
1-Yr T-bill
current yield 0.10%; opening yield 0.10%
2-Yr T-note
current yield 0.22%; opening yield 0.22%
5-Yr T-note
current yield 0.74%; opening yield 0.74%
10-Yr T-note
current yield 1.81%; opening yield 1.77%
30-Yr T-bond
current yield 2.99%; opening yield 2.99%

 


A FLURRY OF INTERESTING ECONOMIC NEWS

Wednesday, May 8, 2013
 
A DOOMED ONLINE SALES TAX PROPOSAL AND T-BILLS AT ZERO
On Monday, the Senate voted overwhelmingly in favor of permitting states to tax online sales. The bill will now move to the House, where it is generally expected to die by Committee. This proposed tax would benefit state and local governments, as the more traditional brick and mortar stores which physically exist within actual communities (employing workers and paying local taxes) would gain a more equal footing relative to online sellers who currently avoid charging a sales tax.
 
Yesterday, $20 billion of the new 4-week Treasury-bill was auctioned at an interest rate of 0.000%. Zero is currently the lowest acceptable Treasury auction bid, although any security may trade at a negative yield in the secondary market. This is a reflection of shrinking Treasury-bill supply resulting from much larger than expected April tax inflows. The Washington Post reported that “the red ink is receding rapidly in Washington,” meaning that President Obama will probably not need to seek additional borrowing authority from Congress until early October.  Although this is certainly good news from a deficit standpoint, it suggests diminished pressure could delay any serious summer budget discussions.  
 
BIG PROFITS AT FREDDIE
Freddie Mac reported this morning that it had earned $4.6 billion in the first quarter of 2013, the second highest net income in its history, and will pay $7 billion to the Treasury Department. For all of last year, Freddie Mac’s net income was $11 billion. Bloomberg News noted that Fannie Mae, with 2012 net income of $17.2 billion, had exceeded the profits of such companies as Wal-Mart, General Electric and Berkshire Hathaway.
 
The primary reason why Fannie and Freddie have stormed back to health is the broad housing market recovery. Housing prices have been on the rise and are expected to continue doing so for the foreseeable future.  From the first quarter of 2009 to the last quarter of 2012, home equity value in the U.S. rose by $2 trillion to $8.2 trillion. Although this is a giant increase, the total value still falls well below the $13.2 trillion in home equity at the bubble peak in 2006.
 
The Wall Street Journal reported that the nation’s credit crunch is easing. According to Federal Reserve data, commercial bank loans reportedly grew at an 11% annualized rate in the first quarter of 2013, the sixth double-digit increase in the past seven quarters. In 2012, $713 billion in credit flowed into U.S. households and nonfinancial businesses, more than double the $336 billion from 2011 …although just a fraction of the $2.2 trillion that bolstered consumer and business spending in 2007.
 
The DOW blew through the 15,000 mark for the first time yesterday, and kept right on going, closing at a new record high of 15,105 this afternoon. Not to be outdone, the S&P 500, which closed above the 1,600 mark last Friday, has reached new highs each day this week.
 
Bond market yields are virtually unchanged from opening levels.  

MARKET INDICATIONS AS OF 4:00 P.M. CENTRAL TIME

DOW
UP 49 to 15,105
NASDAQ
UP 17 to 3,413
S&P 500
UP 7 to 1,633
1-Yr T-bill
current yield 0.10%; opening yield 0.10%
2-Yr T-note
current yield 0.22%; opening yield 0.22%
5-Yr T-note
current yield 0.74%; opening yield 0.75%
10-Yr T-note
current yield 1.77%; opening yield 1.78%
30-Yr T-bond
current yield 2.99%; opening yield 3.00%

 


BETTER JOBS REPORT PROPELS STOCKS TO RECORD HIGHS

Friday, May 3, 2013
 
EMPLOYMENT REPORT EVEN STRONGER THAN HEADLINE
Today’s employment report from the Bureau of Labor Statistics showed the economy added 165k jobs during April, topping the Bloomberg median forecast for a gain of 140k. While not a stellar number, it did beat expectations and, more importantly, revisions to the prior two months added an additional 114k jobs to the tally. Recall that the change in non-farm payrolls for March was a very disappointing +88k, a figure that kicked off a month of generally softer data, raised concerns about the impact of the sequestration, and silenced talk of tapering off the Federal Reserve’s current stimulus plan. This morning’s report added 50k jobs to the March figure, taking the revised number up to 138k. Suddenly, March doesn’t look so bad. Data for February was initially reported as a gain of 236k jobs and had already been revised up to 268k. Today’s revision took the February gain all the way up to 332k. Combining the prior months’ revisions with the April figure, the report shows 290k new jobs have been created. So far this year, the economy has added 783,000 jobs, an average of almost 196k per month.
 
Gains in employment were widespread with strength in business services (+73k), leisure and hospitality (+43k), retail trade (+29k), and health care (+19k). Other categories showed little to no change, including construction, manufacturing, mining, and wholesale trade.  An 11k drop in government payrolls was smaller than predicted, but bigger cuts are in the future as sequester related cuts accelerate into the summer months.
 
The other good news from the report was the unemployment rate, which fell from 7.6% in March to 7.5% in April, the lowest level since December 2008. Previously, declines in the unemployment rate have been largely attributable to a declining labor force, but in April the labor force actually grew slightly, while the participation rate held steady at 63.3%.
 
Despite the many positives in today’s report, there were a few negatives mixed in. The average work week fell 0.2 hours to 34.4 hours, a sign that employers may be cutting back production in anticipation of weaker conditions ahead. The U6 unemployment rate, which basically captures everyone who would accept a full-time position if one were offered, rose from 13.8% to 13.9%. Overall, though, it was a pretty good report.

OTHER NEWS FROM THE WEEK
Other data reports this week were not quite as strong as the employment report. On Wednesday, the April ISM manufacturing index fell from 51.3 to 50.7. This was actually a bit of a relief as many analysts were calling for a number below the 50 mark after seeing the Chicago manufacturing index drop from 52.4 to 49 a day earlier. Record stock market values and tumbling gasoline prices have boosted consumer spirits as the Conference Board’s consumer confidence index rose from 61.9 in March to a five-month high of 68.1 in April. On Tuesday, the S&P/Case-Shiller 20-City home price index showed a 9.3% year-over-year gain, the most since May 2006. Inflation, meanwhile, is trending lower. A couple of weeks ago the Bureau of Labor Statistics reported that the consumer price index (CPI) fell by 0.2% in March, bringing the year-over-year consumer inflation rate to 1.5%. This is very low for CPI on a historical basis, but the bigger concern is that the Fed’s preferred measure, the personal consumption expenditures (PCE) deflator, is running at an even slower pace. The PCE deflator is now increasing at a sluggish 1.0% year-over-year rate, while core PCE is rising at a 1.1% pace, matching a record low and giving the Fed plenty of room to maintain its aggressive policy.
 
STOCKS HIT RECORD HIGHS
Financial markets have taken all this news in stride and stocks continue to march higher. Both the Dow Jones Industrial Average and the S&P 500 have traded into record high territory with the DOW briefly topping the psychologically important 15,000 mark and the S&P above 1,600. The Nasdaq hit a 12½ year high. Predictably, bonds have sold off, pushing yields higher, although not as much as one might have expected given the reaction in equity markets. It appears that the Fed’s policies are starting to take hold. Animal spirits are building and with a little luck, perhaps the trend will continue.
 
MARKET INDICATIONS AS OF 10:23 A.M. CENTRAL TIME

DOW
Up 159 to 14,990 (It was over 15,000 a few minutes ago!)
NASDAQ
Up 43 to 3,384
S&P 500
Up 20 to 1,618
1-Yr T-bill
current yield 0.103%; opening yield 0.108%
2-Yr T-note
current yield 0.214%; opening yield 0.198%
5-Yr T-note
current yield 0.71%; opening yield 0.65%
10-Yr T-note
current yield 1.72%; opening yield 1.63%
30-Yr T-bond
current yield 2.93%; opening yield 2.82%

 


BOND YIELDS DECLINE AS Q1 GDP SUGGESTS FED SHOULD REMAIN ON HOLD

Friday, April 26, 2013
 
ECONOMIC GROWTH FALLS BELOW FORECAST
The Commerce Department reported this morning that the U.S. economy grew at a 2.5% annualized rate in the initial quarter of 2013. This appeared to be significant improvement from the final quarter of 2012 when GDP rose at a revised 0.4% pace, but it was generally seen as a disappointment since it fell short of the median forecast of 3.0%.
 
The Q1 number was heavily influenced (as is usually the case) by changes in business inventory levels which added a full percentage point to the overall number. If inventory accumulation is factored out, annualized Q1 GDP rose by just 1.5%, a deceleration from the inventory-adjusted 1.9% pace of Q4 2012.
 
Consumer spending, which historically accounts for roughly 70% of GDP growth, rose at a respectable 3.2% pace in Q1, adding 2.2 percentage points to the overall number, after increasing at a 1.8% pace at the end of 2012. Much of this spending came at the expense of the savings rate, which dropped to 2.6%, the lowest in more than five years. Americans had been saving at a 4.7% pace in the previous three quarters.  
 
Residential construction added 0.3 percentage points to overall growth, reflecting the turnaround in the housing market. Government spending decreased for the 10th time in 11 quarters. State and local spending declined by 1.2%, while Federal spending dropped by 8.4%. Within that component, military spending contracted at an 11.5% annualized pace after falling at a 22% rate in the prior period. Bloomberg News reported that this represented the biggest two quarter drop since the Korean War ended in 1954.
 
The Q1 number will be subject to revisions in the following two months. Going forward, most expect Q2 growth to be slower, before picking up a bit in the second half of the year. The initial Q2 forecasts are around 1.5%. Growth in the second half of 2013 is generally expected to increase to approximately 2.5%. To put all of this in perspective, GDP has averaged 3.2% over the past 65 years.
 
Bond yields have fallen in early trading under the assumption that the economy is a bit weaker than previously assumed, and as a result, the Fed is more likely to maintain its monetary policy stance for a longer period of time.
 
In other news, the Wall Street Journal reported that corporate loan growth grew at a 2.7% pace in the first quarter, the slowest rate in two years, and Sallie Mae withdrew a $225 million bond offering due to a lack of demand. The Journal suggested that investors required a higher rate of interest to compensate for the high rate of student loan defaults.  
 
MARKET INDICATIONS AS OF 9:25 A.M. CENTRAL TIME

DOW
UP 10 to 14,711
NASDAQ
DOWN 14 to 3,276
S&P 500
DOWN 1 to 1,584
1-Yr T-bill
current yield 0.10%; opening yield 0.10%
2-Yr T-note
current yield 0.22%; opening yield 0.23%
5-Yr T-note
current yield 0.69%; opening yield 0.71%
10-Yr T-note
current yield 1.67%; opening yield 1.71%
30-Yr T-bond
current yield 2.87%; opening yield 2.91%

 


THE APRIL 2013 BLOOMBERG INTEREST RATE AND ECONOMIC SURVEYS

Thursday, April 25, 2013
 
From April 5 through April 9, 2013, Bloomberg News surveyed 72 top economists for their most recent opinions on the U.S. economy and interest rates. The following are the results of their responses:
The Interest Rate Forecast
 
Overnight Fed Funds - The MEDIAN fed funds forecast for Q2 2013 is 0.25%. The MEDIAN forecast for the next six quarters are 0.25%, 0.25%, 0.25%, 0.25%, 0.25% and 0.25%. The current fed funds target rate is a range between 0.00% and 0.25%.
 
There has been a subtle shift in Fed thinking in recent weeks as a result of lessening global inflationary pressures. Last month, the primary question amongst FOMC members was …when is it most appropriate to temper or halt quantitative easing?  Now, there are scattered rumblings about actually increasing the $85 billion per month target. Last week, St. Louis Fed President James Bullard said that inflation has fallen too far below the Fed’s target rate, and “If it doesn’t start to turn around here soon, I think we’ll have to rethink where we are in our policy,” which suggests Bullard, an FOMC voting member in 2013, would be in favor of increasing the pace of asset purchases.
 
2-year Treasury-note - The average 2-year yield forecast for Q2 2013 is 0.29%. The average yield forecast for the next six quarters are 0.36%, 0.43%, 0.53%, 0.63%, 0.70% and 0.83%. The current 2-yr Treasury yield is 0.22%.
 
 
Q2 2013
Q3 2013
Q4 2013
Q1 2014
Q2 2014
Q3 2014
Q4 2014
Current Survey
(April 2013)
0.29%
0.36%
0.43%
0.53%
0.63%
0.70%
0.83%
Prior Survey
(March 2013)
0.32%
0.39%
0.47%
0.55%
0.66%
0.76%
N/A
One Year Prior
(April 2012)
0.73%
0.86%
1.01%
N/A
N/A
N/A
N/A
 
10-year Treasury-note - The average 10-year yield forecast for Q2 2013 is 1.95%. The average forecast for the next six quarters are 2.11%, 2.25%, 2.31%, 2.42%, 2.58% and 2.72%.  The current 10-year yield is 1.70%.
 
Q2 2013
Q3 2013
Q4 2013
Q1 2014
Q2 2014
Q3 2014
Q4 2014
Current Survey
(April 2013)
1.95%
2.11%
2.25%
2.31%
2.42%
2.58%
2.72%
Prior Survey
(March 2013)
2.02%
2.17%
2.31%
2.49%
2.64%
2.82%
N/A
One Year Prior
(April 2012)
2.69%
2.87%
3.05%
N/A
N/A
N/A
N/A
 
30-year Treasury-bond - The average 30-year yield forecast for Q2 2013 is 3.12%. The average forecast for the next six quarters are 3.25%, 3.40%, 3.52%, 3.68%, 3.81% and 3.90%. The current 30-year yield is 3.15%.
 
Q2 2013
Q3 2013
Q4 2013
Q1 2014
Q2 2014
Q3 2014
Q4 2014
Current Survey
(April 2013)
3.12%
3.25%
3.40%
3.52%
3.68%
3.81%
3.90%
Prior Survey
(March 2013)
3.20%
3.32%
3.47%
3.61%
3.73%
3.89%
N/A
One Year Prior
(April 2012)
3.68%
3.84%
3.97%
N/A
N/A
N/A
N/A
 
 
The Economic Forecast
Unemployment Rate - The median forecast for Q2 2013 unemployment is 7.7%. The median forecast for the next five quarters are 7.5%, 7.4%, 7.3%, 7.2% and 7.1%.
 
Nonfarm payrolls increased by a disappointing 88k in March. This was well below the median forecast for 190k new jobs, and the smallest monthly increase since June 2012. It was also a sharp drop from the November-February period, during which a total of 882k new jobs were created. Interestingly, while job growth appeared quite anemic in March, the unemployment rate, calculated with data compiled through a separate survey of U.S. households, actually declined a bit. However, the drop in the official unemployment rate from 7.7% to a four-year low of 7.6% was misleading. The reality is that the household survey showed a loss of 206k jobs. The official unemployment rate fell as a result of the labor force shrinking by another 496k workers, the biggest drop since December 2009.
 
The “participation rate” (the percentage of working-age people who either have a job or would like to have a job) declined by 2/10ths of a percentage point and currently stands at 63.3%, the lowest level since May 1979. If the participation rate had simply remained the same, the unemployment rate would have risen to 7.9%. On a side note, the number of Americans on disability (and subsequently no longer included in the labor force) has climbed rapidly in recent years with a dubious new record high of 8.9 million recipients established in March.
 
Real GDP (annualized economic growth) - The median GDP growth forecast for Q2 2013 is +1.6%. The median forecast for the next five quarters are +2.3%, +2.6%, +2.8%, +2.9% and +3.0%.
 
The final revision to fourth quarter 2012 GDP brought annualized economic growth up slightly from +0.1% to +0.5%. Given that the initial print in January had been a negative 0.1%, the improved 0.5% annualized gain is a relief as it doesn’t hint at the beginning of a recession. The initial first quarter GDP 2013 reading will be released tomorrow, and the general expectation is for growth of around 2.5%.  Second quarter growth is expected to slow down again, before resuming at a brisker pace in the second half of the year. Frankly, the quarter to quarter volatility isn’t all too relevant as inventory levels have a tendency, in the short-term, to whip the quarterly readings around.  It’s better to look at the year as a whole.  In 2012, the economy grew at a 2.2% rate, improved from 1.9% in 2011, but well below the 65 year average of 3.2%.      
 
 
Consumer Prices - The median annualized consumer inflation forecast for Q2 2013 is +2.0%. The median forecast for the next five quarters are +2.0%, +1.9%, +2.0%, +2.1%, and 2.1%. 
 
The consumer price index (CPI) for March actually fell by 0.2%, pushing down the year-over-year consumer inflation rate to a seemingly benign 1.5%. Analyst had expected CPI would be unchanged. Predictably, much of the decline was energy-related, as the gasoline component fell by 4.4%. The average retail price of a gallon of regular gasoline fell around $0.25 per gallon during the month of March, and has dropped another $0.10 in April to a nationwide average of $3.60. Lower pump prices could significantly cushion the effects of higher taxes and federal budget cuts. Core CPI, which excludes food and energy prices, rose by just 0.1% in March, and is now rising at a 1.9% year-over-year pace. The Fed’s preferred inflation measure, the core personal consumption expenditures (PCE) index, was increasing at a decidedly slower 1.3% pace.
  
The significance of the inflation data is that the Fed is using it (along with the unemployment rate) as a monetary policy barometer. In theory, if unemployment were to fall below 6.5% or core inflation were to rise above 2.5%, the Fed would begin tightening monetary policy …although they’ve granted themselves plenty of latitude.      
  
 
MARKET INDICATIONS AS OF 3:35 P.M. CENTRAL TIME

DOW
UP 25 to 14,700
NASDAQ
UP 20 to 3,289
S&P 500
Up 6 to 1,585
1-Yr T-bill
current yield 0.10%; opening yield 0.11%
2-Yr T-note
current yield 0.23%; opening yield 0.23%
5-Yr T-note
current yield 0.71%; opening yield 0.71%
10-Yr T-note
current yield 1.71%; opening yield 1.71%
30-Yr T-bond
current yield 2.91%; opening yield 2.90%

 


RECENT DATA POINTS TO GLOBAL SLOWDOWN

Tuesday, April 23, 2013
 
SPRING SWOON
Throughout most of the first quarter economic data showed signs of modest improvement, in spite of some very negative headlines out of Washington, including tax hikes and cuts to federal spending. From November 2012 through February 2013 non-farm payrolls increased by an average of 220k per month, while the unemployment rate edged down to 7.7%. The housing market improved steadily and consumer spending was surprisingly robust. As we roll through April, however, the data has softened. Reports from earlier in the month show that only 88k jobs were added in March and the drop in the unemployment rate was attributed to a shrinking labor force. Retail sales for March declined by 0.4% and inflation retreated. Yesterday’s report on existing homes sales was softer than expected, falling 0.6% to a 4.92 million unit annual rate, down slightly from the recent high of 4.96 million last November. Today, existing home sales essentially matched expectations, rising slightly to a 416k unit annual pace.
 
Several of the more minor indicators are sounding alarm bells. Last week, the index of leading indicators fell by 0.1%; the Philly Fed index dropped to 1.3; and the Chicago Fed national activity index turned negative. Today, the Richmond Fed index printed a -6, while the Markit U.S. PMI Preliminary index fell to 52.0 from last month’s 54.6. All of these readings were weaker than expected and seem to indicate that the tax hikes and federal spending cuts are beginning to bite.
 
GLOBAL ECONOMY IS SLOWING
The U.S. has plenty of company in this not so prestigious club. A sampling of data headlines from today alone highlight the struggle of economies all across much of the developed world: the Markit preliminary PMI for China fell to 50.5 in April from 51.6 in March; in the Euro area, the PMI Composite index, which captures both services and manufacturing, contracted for the 15th month in a row with a 46.5 print; German auto sales hit the skids with a 17% slide; and the United Kingdom’s Factory CBI index slumped to the lowest level since October 2010 with a -25 reading. In hope of countering the weakness, the IMF has urged the ECB to pursue aggressive monetary policy, something that the U.S. and now Japan are already doing.
In other bizarre news, the Associated Press Twitter page apparently fell victim to a hacker attack and posted a false headline about explosions at the White House that injured the President. The initial news feed immediately sent stock markets down more than 1% in a matter of seconds before the posting could be refuted and removed. Stock markets quickly recovered and are now up about 1% on the day.

MARKET INDICATIONS AS OF 3:20 P.M. CENTRAL TIME

DOW
Up 152 to 14,719
NASDAQ
Up 36 to 3,269
S&P 500
Up 16 to 1,579
1-Yr T-bill
current yield 0.104%; opening yield 0.103%
2-Yr T-note
current yield 0.228%; opening yield 0.224%
5-Yr T-note
current yield 0.70%; opening yield 0.69%
10-Yr T-note
current yield 1.71%; opening yield 1.69%
30-Yr T-bond
current yield 2.90%; opening yield 2.89%

 


RETAIL SALES UNEXPECTEDLY DROP IN MARCH

Friday, April 12, 2013
 
THE CONSUMER FADES INTO QUARTER END
March retail sales were quite a bit weaker than expected, and the two previous months were revised lower, suggesting that first quarter growth may not be as solid as most had hoped. The 0.4% decline in March, was the worst showing since last June, and was well below the median forecast, which had indicated no change. Revisions dragged January sales into negative territory from a previously reported +0.2% to -0.1%, and February sales down a tenth from +1.1% to +1.0%. March retail sales were weak across the board. When automobiles and gasoline are excluded from the calculation, sales were still down 0.1%.
 
After seeing the data, a number of analysts have rewritten their Q1 GDP forecasts to reflect a slower rate of economic growth. FTN Financial slashed its GDP forecast from 3% to 2%, while Morgan Stanley revised its call from 3% to 2.5%. Unexpectedly weak spending also suggests that the Fed could continue its massive asset purchase strategy for a longer period. Recall that easy monetary policy is designed to spark economic growth. The hope is that over time, this growth will become self-sustaining, which would allow the Fed to eventually take its foot off the accelerator. For a while, it appeared that the economy might be gathering momentum. Suddenly, it doesn’t anymore.
 
Before the number was announced, Boston Fed President Rosengren reiterated that the Fed’s highly accommodative monetary policy stance was “both appropriate and necessary.” With unacceptably high unemployment and little price pressure, he felt the Fed was failing on both of its mandates. Fed members, in general, are divided on their support for continued QE. 
 
 
MORE SIGNS OF BENIGN INFLATION
Speaking of price pressure, the producer price index (PPI) was also released this morning. Although producer prices generally aren’t considered as important as consumer prices, there were few signs of inflation at the producer level.  In fact, overall PPI fell by 0.6% in March, following a 0.7% rise in February. Both months were heavily influenced by energy prices.  The core rate, which excludes food and energy, rose just 0.2% (0.16% unrounded). On a year-over-year basis, overall PPI is rising at a benign 1.1% pace, while core PPI is advancing at a rate of 1.7%.
 
Bonds have rallied in early trading, with the long bond up more than a full point, reflecting renewed expectations for slower growth and a longer period of easy Fed policy. The equity markets have dropped in response to the sluggish consumer, although market losses are currently staring to recede.         
              

MARKET INDICATIONS AS OF 9:25 A.M. CENTRAL TIME

DOW
DOWN 32 to 14,833
NASDAQ
DOWN 12 to 3,288
S&P 500
DOWN 7 to 1,586
1-Yr T-bill
current yield 0.12%; opening yield 0.12%
2-Yr T-note
current yield 0.23%; opening yield 0.23%
5-Yr T-note
current yield 0.70%; opening yield 0.73%
10-Yr T-note
current yield 1.74%; opening yield 1.79%
30-Yr T-bond
current yield 2.94%; opening yield 3.00%

 


DISAPPOINTING LABOR REPORT DRIVES BOND YIELDS LOWER

Friday, April 5, 2013
 
MARCH PAYROLL GAINS FALL WELL BELOW FORECASTS  
Bond yields continued to fall as economic data suggests U.S. economic growth will decelerate in the spring quarter for the third straight year. This morning, the much-anticipated labor market report showed unexpected weakness in an area that had shown relative strength in the previous four months. Nonfarm payrolls rose by just 88k in March. The smallest gain in nine months was a far cry from the median forecast for 190k jobs, and a sharp drop from the previous four month period, during which a total of 882k new jobs were created. March job gains were concentrated in healthcare (+23k), construction (+18k) and leisure and hospitality (+17k). Job losses were found in retail (-24k), government (-7k) and manufacturing (-3k).     
 
Interestingly, the unemployment rate, calculated with data compiled through a separate survey of U.S. households, actually fell. However, the drop in the official unemployment rate from 7.7% to a four-year low of 7.6% was misleading. The reality is that the household survey showed a loss of 206k jobs. The rate fell as a result of the labor force shrinking by another 496k workers, the biggest drop since December 2009. The “participation rate” (the percentage of working-age people who either have a job or would like to have a job) declined by 2/10ths of a percentage point and now stands at 63.3%, the lowest level since May 1979. If the participation rate had simply remained the same, the unemployment rate would have risen to 7.9%. On a side note, one consideration related to the shrinking labor force is that the number of Americans on disability has exploded in recent years with a dubious new record high of 8.9 million established in March.
 
This morning’s report was such a disappointment that finding bright spots has been a challenge …but there were a few. Payrolls in January and February were revised upward by a total of 61k. Revised February payroll gains were a very solid 268k. The broader U6 unemployment measure fell from 14.3% to 13.8%, the lowest level since December 2008 …although it isn’t entirely clear to me how this could have happened.
 
There has been some recent debate over when the Fed should begin tapering its asset purchases. Today’s poor labor report suggests the Fed won’t be in a hurry. The weakness also indicates that the overnight funds rate is likely to remain at the 0.00% to 0.25% target range for a longer period than anticipated before the release.
 
The bond market is reflecting this expectation for continued accommodation in Fed monetary policy. The two-year Treasury note yield fell to 0.20% in early trading before drifting up to 0.21%. The 10-year Treasury note yield is now at 1.69%, well below the 2.06% posted just a month earlier.  
 
The equity markets are getting clobbered this morning, although part of the reason probably involves profit taking. After all, the DOW and S&P 500 both reached new record highs on Tuesday.          

JAPAN EMBARKS ON MASSIVE QE
Earlier this week, the Japanese central bank announced it was doubling its asset purchases to the equivalent of $75 billion per month. In relative terms, this is about twice the size of the Fed’s quantitative easing program. But unlike the Fed, the Bank of Japan hopes to generate inflation. Japan is currently experiencing deflation of 0.7% and would like to see positive price pressure of 2.0%. After the announcement, the Japanese 10-year yield fell from 0.56% to 0.44%. This makes U.S. Treasury yields look high by comparison.
 
MARKET INDICATIONS AS OF 9:30 A.M. CENTRAL TIME

DOW
DOWN 146 to 14,460
NASDAQ
DOWN 46 to 3,179
S&P 500
DOWN 20 to 1,540
1-Yr T-bill
current yield 0.13%; opening yield 0.13%
2-Yr T-note
current yield 0.21%; opening yield 0.22%
5-Yr T-note
current yield 0.67%; opening yield 0.70%
10-Yr T-note
current yield 1.69%; opening yield 1.76%
30-Yr T-bond
current yield 2.85%; opening yield 2.99%

 


RECORD PROFITS AT REVITALIZED FANNIE AND FREDDIE

Wednesday, April 3, 2013
 
U.S. MORTGAGE GIANTS ARE NO LONGER TROUBLED
On February 28th, Freddie Mac had announced record 2012 profits of $11 billion. This single year profit equaled the total profits Freddie achieved during the entire decade of the 90’s, and was well above the $7.3 billion combined profits recorded during the frothy 2004-2006 housing boom.
 
Yesterday, Fannie Mae reported that it too had posted a record year. In fact, Fannie’s 2012 profit was $17.2 billion, more than doubling its previous high of $8 billion from 2003. The future outlook is apparently even brighter. If the U.S. housing market continues to improve, Fannie believes a portion of its set-aside loss reserves could be reversed, boosting future profits significantly higher.  
 
The latest Federal bailout tally shows total draws of $187.5 and combined payback of $65.2 billion, leaving outstanding loan balances at $80.6 billion for Fannie and $41.7 billion for Freddie. During the depth of the recession, some housing market analysts has estimated combined losses under the government conservatorship plan could top $300 billion.
 
An article in this morning’s Wall Street Journal suggested that the greatly improved outlook could reshape the debate over privatization of the two government-owned companies. Last year, the Treasury Department determined that no profits could be retained; all gains would be paid back to the Treasury. Thus, the government now finds itself in the position of having a steady stream of cash flowing into government coffers at a time when revenue inflows are decidedly precious. With much tighter lending standards in place, fewer and fewer mortgage defaults, and rapidly rising home values, it isn’t entirely clear that an immediate problem exists. Business Week may have said it best when it declared the improved performance certainly doesn’t increase the urgency to arrive at a solution.

MARKET INDICATIONS AS OF 1:30 P.M. CENTRAL TIME

DOW
Down 105 to 14,557
NASDAQ
Down 38 to 3,217
S&P 500
Down 15 to 1,555
1-Yr T-bill
current yield 0.13%; opening yield 0.13%
2-Yr T-note
current yield 0.23%; opening yield 0.24%
5-Yr T-note
current yield 0.73%; opening yield 0.77%
10-Yr T-note
current yield 1.80%; opening yield 1.86%
30-Yr T-bond
current yield 3.05%; opening yield 3.10%

 

 


 

Disclosure:  These statements are intended for educational and informational purposes only and does not constitute legal or investment advice, nor is it an offer or a solicitation of an offer to buy or sell any investment or other specific product.  The information provided within was obtained from sources that are believed to be reliable; however, it is not guaranteed to be correct, complete, or current, and is not intended to imply or establish standards of care applicable to any attorney or advisor in any particular circumstances. The statements within constitute FirstSouthwest views as of the date of the report and are subject to change without notice. These statements represent historical information only and are not an indication of future performance.

Training Calendar

The Texas Public Funds Investment Act requires treasurers, chief financial officers, and investment officers of local governments, including all political subdivisions (excluding certain water districts), to receive 10 hours of training on topics pertaining to the Act within the first 12 months after assuming duties and every two years thereafter. For state agencies and institutions of higher education (including community colleges), investment officers are required to attend one training session within six months of assuming duties and every two years thereafter.


The Center for Public Management (CPM) at the University of North Texas offers several programs designed to meet the training requirements of the Public Funds Investment Act and the needs of trainees. To view a calendar of upcoming training workshops, visit the CPM website.
 

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