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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.

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Economic Insights

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 30^th. 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 19^th. 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 10^th 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

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 2/10^ths 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.

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 15^th 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 2/10^ths 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 28^th, 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%

THE MARCH 2013 BLOOMBERG INTEREST RATE AND ECONOMIC SURVEYS

Tuesday, March 26, 2013

From March 8 through March 13 2013, Bloomberg News surveyed 70 top economists for their most recent opinions on the U.S. economy and interest rates. The following are the results of their responses:

The Economic Forecast

Unemployment Rate - The median forecast for Q1 2013 unemployment is 7.8%. The median forecast for the next three quarters are 7.7%, 7.6% and 7.5%. The average for all of 2014 is 7.2%, and for 2015 is 6.7%.

Nonfarm payrolls unexpectedly increased 236k in February, significantly above the median forecast for a 165k increase. Prior month revisions to the business survey brought December payrolls up from 196k to 219k and January payrolls down from 157k to 119k. Still, three of the last four months now show payroll gains above 200k, and a four-month average of 205k. By comparison, during the depth of the recession in Q1 2009, payroll losses averaged 773k per month, and since the labor market recovery began in Q4 2010, monthly payroll gains have averaged 176k.

The February unemployment rate, calculated with data gathered from a separate household survey, fell from 7.9% to 7.7%. Although this was the lowest unemployment level since December 2008, the details weren’t quite as impressive. There was modest household job growth of 170k, but the hidden factor that drove the unemployment rate down was a 130k drop in the number of persons actively seeking work. The decline pushed the labor market participation rate down from 63.6% to 63.5%. This rate represents those actively employed, plus those seeking employment, as a percentage of working-age Americans who are able to work. The participation rate peaked at 67.2% in early 2000, and had averaged 66% as recently as 2008.

According to the Bureau of Labor Statistics, there are still 885k “discouraged workers” who have stopped looking for work because they don’t believe there’s a job available for them. If the U.S. economy were to continue growing, presumably some of these discouraged workers would resume their job hunt, joining the 12 million officially unemployed Americans who are actively looking for work. This workforce inflow would, in theory, push the unemployment rate higher.

Real GDP (annualized economic growth) - The median GDP growth forecast for Q1 2013 is +2.0%. The median forecast for the next three quarters are +1.8%, +2.4% and +2.7%. The average for all of 2014 is 2.7%, and for 2015 is 2.9%.

The first revision to fourth quarter GDP boosted economic growth for the final quarter of 2012 up from -0.1% to +0.1%. Most experts had expected the revision would be positive, but the median forecast had been for a larger +0.5% reading, so the tepid number was a bit of a surprise. A revised trade balance figure added a net 0.5% to growth, but business inventory levels shrunk, as did both government spending and personal consumption.

Of course, the fourth quarter is old news at this point. The concern among many was that the 2% payroll tax increase that went into effect at the beginning of the year, along with escalated energy prices would slow growth even further. So far, the reality has been quite different. Consumer spending has been more resilient than had been imagined. Retail sales in February unexpectedly rose by 1.1%, the biggest rise in five months, although much of this was simply due to higher gasoline prices padding service station receipts. Still, the U.S. economy looks like it will actually take a step forward in early 2013. UBS is now calling for a 3.0% GDP increase in Q1, while Bank of America revised its own Q1 forecast upward from +2.6% to 3.0%. However, momentum is elusive. Most believe the fragile economy will take a step backward in the following quarter once the Federal budget cuts take effect.

Consumer Prices - The median annualized consumer inflation forecast for Q1 2013 is +1.7%. The median forecast for the next three quarters are +1.9%, +2.0% and +2.0%. The average for all of 2014 is +2.2%, and for 2015 is +2.5%.

The consumer price index (CPI) rose by 0.7% in February. On the surface, this seems like a significant increase; however, it was actually the first positive CPI advance since October, and was primarily a result of a 9.1% rise in gasoline prices. The median forecast had been for a slightly lower 0.5% rise. The less volatile core CPI (which excludes food and energy prices) rose by 0.2% in February, exactly matching the median forecast. Both headline CPI and the core are now increasing at a 2.0% year-over-year rate.

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 policy. However, it’s important to note that the Fed’s primary inflation indicator is not the familiar CPI measure. Instead, the FOMC’s preferred gauge is the more obscure personal consumption expenditure core price index (PCE), which conveniently has been running about half a percentage point below core CPI. So, from an inflation standpoint, the Fed doesn’t think it has a problem. Going forward, the slow pace of global growth is expected to keep a lid on price pressures and allow the Fed to maintain its super-accommodative stance.

The Interest Rate Forecast

Overnight Fed Funds - The MEDIAN fed funds forecast for Q1 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 concluded a two-day meeting on March 20^th with no reported change in monetary policy and only minor changes to the FOMC statement language. Committee members pledged to continue to expand the Fed balance sheet by $85 billion each month until employment has improved “substantially.” The survey of FOMC participants revealed that 14 of 19 members do not think it would be appropriate to raise the overnight funds rate before 2015. If recent history is any guide, sluggish economic growth between now and then will have the gradual effect of pushing tightening expectations even further out.

2-year Treasury-note - The average 2-year yield forecast for Q1 2013 is 0.28%. The average yield forecast for the next six quarters are 0.32%, 0.39%, 0.47%, 0.55%, 0.66% and 0.76%. The current 2-yr Treasury yield is 0.25%.

	Q1 2013	Q2 2013	Q3 2013	Q4 2013	Q1 2014	Q2 2014	Q3 2014
Current Survey (March 2013)	0.28%	0.32%	0.39%	0.47%	0.55%	0.66%	0.76%
Prior Survey (Feb 2013)	0.29%	0.33%	0.39%	0.45%	0.54%	0.63%	0.74%
One Year Prior (March 2012)	0.48%	0.62%	0.73%	N/A	N/A	N/A	N/A

10-year Treasury-note - The average 10-year yield forecast for Q1 2013 is 1.95%. The average forecast for the next six quarters are 2.02%, 2.17%, 2.31%, 2.49%, 2.64% and 2.82%. The current 10-year yield is 1.92%.

	Q1 2013	Q2 2013	Q3 2013	Q4 2013	Q1 2014	Q2 2014	Q3 2014
Current Survey (March 2013)	1.95%	2.02%	2.17%	2.31%	2.49%	2.64%	2.82%
Prior Survey (Feb 2013)	1.93%	2.04%	2.18%	2.32%	2.51%	2.67%	2.83%
One Year Prior (March 2012)	2.53%	2.69%	2.87%	N/A	N/A	N/A	N/A

30-year Treasury-bond - The average 30-year yield forecast for Q1 2013 is 3.10%. The average forecast for the next six quarters are 3.13%, 3.20%, 3.32%, 3.47%, 3.61% and 3.73%. The current 30-year yield is 3.15%.

	Q1 2013	Q2 2013	Q3 2013	Q4 2013	Q1 2014	Q2 2014	Q3 2014
Current Survey (March 2013)	3.13%	3.20%	3.32%	3.47%	3.61%	3.73%	3.89%
Prior Survey (Feb 2013)	3.10%	3.17%	3.28%	3.42%	3.57%	3.67%	3.81%
One Year Prior (March 2012)	3.55%	3.68%	3.84%	N/A	N/A	N/A	N/A

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

DOW	UP 87 to 14,535
NASDAQ	UP 9 to 3,244
S&P 500	Up 6 to 1,553
1-Yr T-bill	current yield 0.13%; opening yield 0.13%
2-Yr T-note	current yield 0.25%; opening yield 0.24%
5-Yr T-note	current yield 0.79%; opening yield 0.79%
10-Yr T-note	current yield 1.91%; opening yield 1.92%
30-Yr T-bond	current yield 3.13%; opening yield 3.15%

THE LATEST EUROPEAN PROBLEM

Friday, March 22, 2013

TROUBLE IN CYPRUS

The most recent European flare-up is in the tiny island nation of Cyprus, which needs 13 billion euros to rescue its banks and shore up the government. The problem is due primarily to bad loans made to neighboring island nation Greece. The terms of the bailout were unprecedented in that euro zone leaders demanded that a 10% levy be placed on all existing bank deposits, including those of small savers.

The country’s banks were closed last Friday, and ATM withdrawals were limited to prevent a run. On Tuesday, the Cyprus parliament rejected the harsh bailout terms by an overwhelming 56-0 vote, which now suggests the very real possibility that Cyprus could voluntarily exit the 17-member EU. A recent Bloomberg pool showed that 91% of Cypriots support the government's decision to reject bailout terms, while over 67% are now in favor of leaving the euro zone.

The size of the Cyprus economy as measured by GDP is less than $25 billion. This represents only 0.2% of the total euro zone. However, combined balance sheets of Cyprus banks are 7x the size of the economy itself. The fear isn’t that tiny Cyprus will bring down the euro zone so much as it might be a linchpin to a broader contagion.

Interestingly, half of the deposits held in Cyprus banks are from wealthy Russians. And of course, Russia isn’t in the EU. Obviously, citizens of Cyprus strongly object to having their small deposits supplement a rescue plan that includes prosperous foreigners. On Wednesday, Russia rejected a $5 billion loan request from Cyprus, but supposedly will consider making an investment in the country’s offshore oil exploration. Just this morning, the media reported that the European Central Bank had managed to pressure parliament into taking another vote. At present time, results are unknown. Until some resolution is reached, the country’s banks remain closed and global financial markets remain somewhat vulnerable.

…despite all this, the DOW is 35 points away from a fresh record high, and the S&P 500 just 13 points away from its own record.

ANOTHER UNEVENTFUL FED MEETING

Fed officials wrapped up a two-day FOMC meeting on Wednesday with no change in monetary policy and only minor changes in the official statement language. Committee members pledged to continue expanding the now $3 trillion Fed balance sheet by $85 billion every month until employment conditions improve “substantially.” A survey of participants revealed that 18 of 19 believe it would be appropriate to leave the overnight funds rate in the current 0.00% to 0.25% range at least through 2013. Four believe 2014 would be the most appropriate time, 13 believe the first hike should come in 2015, and one thinks 2016 is the best time to begin raising rates.

MARKET INDICATIONS AS OF 12:45 P.M. CENTRAL TIME

DOW	UP 84 to 14,505
NASDAQ	UP 22 to 3,245
S&P 500	UP 11 to 1,550
1-Yr T-bill	current yield 0.13%; opening yield 0.13%
2-Yr T-note	current yield 0.25%; opening yield 0.25%
5-Yr T-note	current yield 0.79%; opening yield 0.78%
10-Yr T-note	current yield 1.92%; opening yield 1.91%
30-Yr T-bond	current yield 3.13%; opening yield 3.13%

INFLATION DATA SHOULD KEEP FED ON SIDELINES

Friday, March 15, 2013

CONSUMER PRICES GENERALLY TAME

This morning, the Commerce Department reported that the consumer price index (CPI) rose 0.7% in February. On the surface, this would appear to be a significant increase; however it was the first positive CPI advance since October, and was primarily a result of a 9.1% rise in gasoline prices. The median forecast had been for a slightly lower 0.5% rise. The less volatile core CPI (which excludes food and energy prices) rose by 0.2%, exactly matching the median forecast. Both headline CPI and the core are now increasing at a 2.0% year-over-year rate.

The significance of the inflation data these days 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 policy. However, it’s important to note that the Fed’s primary inflation indicator is not the familiar CPI measure. Instead, the FOMC’s preferred gauge is the more obscure personal consumption expenditure core price index (PCE), which conveniently has been running about half a percentage point below core CPI. Thus, from an inflation standpoint, the Fed doesn’t seem to have an immediate concern.

The producer price index was released earlier this week, and the price story was much the same on the producer side. Overall PPI climbed by 0.7% in February, exactly matching expectations. Again, although this is a rather high monthly percentage increase, it follows a period in which there was negative price pressure …and February’s increase was almost entirely attributed to higher energy prices. The core rate, which doesn’t include energy or food prices, rose by 0.2% in February. Both PPI and core PPI are increasing at an annual rate of 1.7%.

Once upon a time, it was possible to get a good feel for future consumer inflation by looking at producer costs. Now, PPI has become less relevant; practically irrelevant. If higher producer costs can’t be passed along to consumers, profit margins will shrink.

The DOW and S&P 500 are down in early trading. This probably has less to do with economic data as it does a realization that after 10 straight days of market advances, with new record highs set on the DOW eight of those days, it might be time to pocket some of the profit.

Bond prices have rallied a bit, pushing yields slightly lower.

MARKET INDICATIONS AS OF 9:40 A.M. CENTRAL TIME

DOW	DOWN 37 to 14,502
NASDAQ	DOWN 10 to 3,249
S&P 500	DOWN 4 to 1,552
1-Yr T-bill	current yield 0.14%; opening yield 0.14%
2-Yr T-note	current yield 0.25%; opening yield 0.25%
5-Yr T-note	current yield 0.84%; opening yield 0.87%
10-Yr T-note	current yield 2.00%; opening yield 2.03%
30-Yr T-bond	current yield 3.21%; opening yield 3.24%

RETAIL SALES SURGE IN FEBRUARY

Wednesday, March 13, 2013

HIGHER PUMP PRICES CONTRIBUTE TO A STRONG SALES HEADLINE

Retail sales increased by 1.1% in February, the biggest rise in five months. The increase exceeded the 0.5% median Bloomberg forecast as well as the highest estimate from among 82 economists surveyed. It was also well above the 0.2% sales advance from January. The surface number was a particular surprise in that the consumer was thought to be constrained by the recent 2% payroll tax increase, and threatened by the murky effects of budget sequestration. Of course, the counterbalance has been increasing net worth in the form of rising home prices and record stock market gains.

Of the 13 categories making up the February retail sales number, there were eight advances, the most significant of which was a 5% increase in service station sales, which was simply a result of higher gasoline prices. This factor alone contributed half a percentage point to the overall number. Looking at more traditional spending reveals that department store receipts actually fell by 1% in February. Core retail sales, which exclude the volatile auto, gasoline and building materials categories, increased by 0.4%.

All-in-all, it was a strong surface number and a number that was better-than-expected given fiscal restraints, …but not as strong as it appeared. If gasoline prices had not risen in February, the monthly increase would have been effectively cut in half.

Still, the economic data continues to show resilience. Similar to last year, part of the improved data in the winter months may be related to unseasonably favorable weather. Recall that last year there was a snapback in the following quarter.

The DOW has inched up to another record high, while the broader market S&P 500 index is within a single point of its own high established on Monday. The DOW has now climbed for nine straight days, the longest such streak in two years.

Bonds are essentially flat as this data is not expected to have any effect on Fed monetary policy.

MARKET INDICATIONS AS OF 1:45 P.M. CENTRAL TIME

DOW	UP 4 to 14,455
NASDAQ	UP 5 to 3,247
S&P 500	UP 2 to 1,555
1-Yr T-bill	current yield 0.14%; opening yield 0.14%
2-Yr T-note	current yield 0.26%; opening yield 0.26%
5-Yr T-note	current yield 0.87%; opening yield 0.87%
10-Yr T-note	current yield 2.02%; opening yield 2.01%
30-Yr T-bond	current yield 3.22%; opening yield 3.21%

STRONGER FEBRUARY PAYROLLS BOOST STOCKS

Friday March 8, 2013

THE LABOR MARKET BRIGHTENS

Nonfarm company payrolls rose by 236k in February, well above the median forecast for a smaller 165k increase. Prior month revisions were a mixed bag as January payrolls were revised downward from 157k to 119k, while December payrolls were revised upward, from 196k to 219k. Still, three of the last four months now show payroll gains above 200k and an average of 205k. To put these numbers in perspective, average monthly job loss during the depth of the recession in Q1 2009 was 773k, and once the jobs recovery took hold in Q4 2010, gains have averaged 176k.

The majority of new jobs for February were concentrated in construction (+48k, the biggest increase since March 2006), healthcare (+32k), professional and business services (+73k), and leisure and hospitality (+24k). Government jobs continued to decline as government payrolls shrunk by 10k.

The unemployment rate, which is actually calculated with information gathered from a separate household survey, fell from 7.9% to 7.7%. Although this was the lowest unemployment level since December 2008, the details tarnished the shine a bit. There was moderate household job growth of 170k, but the downward driver was a 130k drop in the number of persons actively seeking employment. The decline pushed the labor market participation rate down from 63.6% to 63.5%. This rate represents those actively employed, plus those seeking employment, as a percentage of working-age Americans who are able to work.

The participation rate peaked at 67.2% in early 2000, and averaged 66% as recently as 2008. In theory, if more people were to reenter the workforce, the unemployment rate would actually rise. According to the Bureau of Labor Statistics, there are still 885k “discouraged workers” who have stopped looking for work because they don’t believe there’s a job available for them. If the U.S. economy were to continue growing, presumably some of these discouraged workers would resume their job hunt, joining the 12 million officially unemployed Americans who are actively looking for work.

The bottom line is that the February employment report was solid, but is unlikely to alter the Fed’s chosen monetary policy stance. After all, the Federal budget cuts haven’t happened yet. However, the U.S. economy, bolstered by a strong housing market and a very accommodative Fed, seems to indicate it will have enough strength to weather the negative impact of sequestration.

Stocks have bounced around a bit, but are up on the day, and currently drifting higher. Bond yields on the long end of the curve are also higher in early trading

PURCHASING MANAGERS INDEXES STREGTHEN

The ISM manufacturing index (released on the 1^st) rose from 53.1 to 54.2, the highest in 20 months. Recall that any level over the 50 mark indicates factory expansion. Just four months ago, the index was 49.9, indicating contraction. The ISM non-manufacturing (service sector) index rose from 55.2 to 56 in February, the highest level in a year. Industries reporting growth included real estate, transportation, retail trade and finance. Within the service sector number, the employment index declined a bit from 57.5 to 57.2, but the January level was the highest since the recession. This seems to supports continued improvement in the labor market.

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

DOW	UP 50 to 14,379
NASDAQ	UP 10 to 3,242
S&P 500	UP 4 to 1,549
1-Yr T-bill	current yield 0.15%; opening yield 0.15%
2-Yr T-note	current yield 0.26%; opening yield 0.26%
5-Yr T-note	current yield 0.90%; opening yield 0.85%
10-Yr T-note	current yield 2.06%; opening yield 2.00%
30-Yr T-bond	current yield 3.25%; opening yield 3.20%

LITTLE APPARENT CONCERN OVER IMPENDING BUDGET SEQUESTRATION

Thursday, Feb 28, 2013

BOTH SIDES BELIEVE NEGOTIATIONS WILL IMPROVE AFTER AUTO CUTS BEGIN

It was framed as a potential disaster, but on the last day before across-the-board budget cuts are set to begin, both sides seem to be comfortable simply allowing the deadline to pass. Primary reasoning for both the GOP and Democrats is that the other side will take the blame. The Wall Street Journal reported this morning that White House officials are trying to make the case that Republican stubbornness is creating a crisis that will jeopardize the economy and throw people out of work. On the other hand, GOP leaders believe the people will hold the President accountable for any hardships that result. Reaction by the financial markets has generally been muted. In fact, equities rallied on both Tuesday and Wednesday …and are up again this morning. The S&P 500 is currently 12 points away from a fresh 5 year high.

Q4 ECONOMIC GROWTH MOVES FROM SLIGHTLY NEGATIVE TO SLIGHTLY POSITIVE

The original reading of fourth quarter GDP was -0.1%, although most had figured this negative print would subsequently be revised upward and into positive territory. As it turns out, that was indeed the case this morning as the first revision boosted GDP growth to +0.1%. The median forecast had been for a larger +0.5% reading, so the tepid revision was a bit of a surprise. A revised trade balance added a net 0.5% to growth, but inventory levels shrunk a bit upon recalculation, as did both government spending and personal consumption. The bottom line is that the U.S. economy was barely growing at the end of 2012 before the payroll tax increase and Federal spending cuts took effect, so the near-term growth outlook is somewhat dim.

Also this morning, first-time claims for unemployment benefits fell by 22k to 344k for the week ending February 15. This is a relatively low level, but in all fairness, so many are already unemployed that it would be a stretch to expect another wave of pink slips at this point. Ongoing unemployment benefits fell to the lowest level since June 2008, but this drop was largely a result of extended unemployment benefits expiring.

MARKET INDICATIONS AS OF 10:15 A.M. CENTRAL TIME

DOW	UP 9 to 14,084
NASDAQ	UP 8 to 3,170
S&P 500	UP 2 to 1518
1-Yr T-bill	current yield 0.15%; opening yield 0.15%
2-Yr T-note	current yield 0.24%; opening yield 0.24%
5-Yr T-note	current yield 0.77%; opening yield 0.77%
10-Yr T-note	current yield 1.89%; opening yield 1.90%
30-Yr T-bond	current yield 3.09%; opening yield 3.10%

THE FEBRUARY 2013 BLOOMBERG INTEREST RATE AND ECONOMIC SURVEYS

Tuesday, February 26, 2013

From February 8 through February 13 2013, Bloomberg News surveyed 71 top economists for their most recent opinions on the U.S. economy and interest rates. The following are the results of their responses:

The Economic Forecast

Unemployment Rate - The median forecast for Q1 2013 unemployment is 7.8%. The median forecast for the next six quarters are 7.8%, 7.6%, 7.5%, 7.4%, 7.3% and 7.1%.

The U.S. economy added 157K jobs in January, below the median forecast of 165k. Revisions to the prior two months netted an additional 127K new jobs. The revisions to December and November also boosted the 2012 monthly average gain from 153K to 181K. The January job gains were concentrated in health care (+23k), construction (+28k) and retail (+33k). January job losses were mostly in air transportation (-5k) and the government sector (-9k).

As more people are encouraged to reenter the labor force on reports of a slightly improving economic picture, the unemployment rate will almost certainly rise. Companies are simply unable to provide the additional supply of jobs needed to offset an influx of demand from the unemployed. Until recently, the number of jobs available had been just enough to satisfy the number of new entrants to the labor force, allowing the rate to remain steady or even fall in some months.

The unemployment rate rose from 7.8% to 7.9% in January. The broader U-6 unemployment rate (total unemployed, plus all marginally attached workers, plus part-time workers for economic reasons) was unchanged at 14.4%. The number of long-term unemployed was virtually unchanged at 4.7 million, while the number of people working part-time for economic reasons ticked up modestly to almost 8 million.

Real GDP (annualized economic growth) - The median GDP growth forecast for Q1 2013 is +1.8%. The median forecast for the next six quarters are +2.0%, +2.5%, +2.7%, +2.8%, +2.8% and +3.0%.

The initial estimate on fourth quarter GDP in 2012 dropped at a 0.1% annual rate, weaker than any economist forecast in last month’s survey. However, updated data indicates a narrower trade deficit, better business investment and a small improvement to personal consumption should be cause for an upward revision this week when the second estimate is announced, moving the mark from negative territory back to the positive side, albeit only by a little.

As the first two months of 2013 wind to a close, much of the economic data used to calculate Q1 GDP has been underwhelming, but still considered expansionary. However, consumer spending has fallen off recently as many working families are feeling the pinch following the expiration of the 2% payroll tax reduction on January 1^st, combined with soaring gasoline prices.

Since the burden of the tax hike will fall on lower middle-class and low-income families, large retailers like Wal-Mart are bracing for a rough time ahead, lowering sales forecasts and adjusting marketing campaigns ahead of expectations that consumers will slash spending. According to the Wall Street Journal, “Wal-Mart has begun stocking more of its shelves with cheaper products, and smaller-size packages of diapers, toilet paper and snacks. Burger King is cutting its Whopper Jr. sandwich to $1.29 from about $2, and focusing advertising on its value menu items rather than higher-price salads or smoothies.” Furthermore, “these companies say the changes could be long-lasting and are revamping operations to better cater to consumers pinched by higher taxes, stagnant wage growth and rising gasoline prices, which jumped nearly 50 cents a gallon in the past month alone.”

Notable GDP forecasts from the survey:

Firm	Q4 2012 ^*	Q1 2013
BofA Merrill Lynch	0.5%	2.0%
Morgan Stanley	0.3%	1.7%
JPMorgan Chase	N/A	1.5%
UBS	0.2%	0.7%
Wells Fargo	2.0%	2.0%

^*Second Estimate

Consumer Prices - The median annualized consumer inflation forecast for Q4 2012 is +1.6%. The median forecast for the next six quarters are +2.0%, +1.9%, +2.0%, +2.0%, +2.1% and +2.1%.

The Producer Price Index (PPI) rose 0.2% in January. Most of the increase occurred in finished consumer foods, which will show up at the grocery store to further complicate consumer budgets. On a year-over-year basis, headline PPI rose at a 1.4% pace. Core producer inflation was higher by 0.2% over the month and 2.0% for the year.

The Consumer Price Index (CPI) was unchanged in January pulling the annual rate down from +1.7% to +1.6%. Core CPI was up 0.25%, leaving the year-over-year rate steady at +1.9%.

The rise in gas prices in February will most likely boost upcoming headline inflation numbers, but the core rates are expected to remain well in check.

Overall, inflationary pressures remain muted, mostly on subdued economic growth. Ongoing constraints on household budgets will further strain consumption, likely causing a shift from already humble discretionary spending to more strict necessity spending. At any rate, the Fed shouldn’t feel pressure to tighten its accommodative monetary policy anytime soon based on these consistently tepid rates of inflation and the current outlook for the labor market.

The Interest Rate Forecast

Fed Chairman Ben Bernanke delivered the semi-annual Monetary Policy Report to Congress Tuesday morning. Although the minutes to the January FOMC meeting illustrated some inter-committee member squabbling over the effectiveness of its current policy and its ability to tighten when necessary, today’s comments advocate a continuation of the current accommodative policy.

Here are some key excerpts from his testimony:

In the current economic environment, the benefits of asset purchases, and of policy accommodation more generally, are clear: Monetary policy is providing important support to the recovery while keeping inflation close to the FOMC's 2 percent objective. Notably, keeping longer-term interest rates low has helped spark recovery in the housing market and led to increased sales and production of automobiles and other durable goods. By raising employment and household wealth--for example, through higher home prices--these developments have in turn supported consumer sentiment and spending.
As I noted, inflation is currently subdued, and inflation expectations appear well anchored; neither the FOMC nor private forecasters are projecting the development of significant inflation pressures.
Although a long period of low rates could encourage excessive risk-taking, and continued close attention to such developments is certainly warranted, to this point we do not see the potential costs of the increased risk-taking in some financial markets as outweighing the benefits of promoting a stronger economic recovery and more-rapid job creation.
Here the link to the full testimony: Chairman Ben Bernanke - Semiannual Monetary Policy Report to the Congress

2-year Treasury-note - The average 2-year yield forecast for Q1 2013 is 0.29%. The average yield forecast for the next six quarters are 0.33%, 0.39%, 0.45%, 0.54%, 0.63% and 0.74%. The current 2-yr Treasury yield is 0.23%.

	Q1 2013	Q2 2013	Q3 2013	Q4 2013	Q1 2014	Q2 2014	Q3 2014
Current Survey (Feb 2013)	0.29%	0.33%	0.39%	0.45%	0.54%	0.63%	0.74%
Prior Survey (Jan 2013)	0.29%	0.33%	0.39%	0.45%	0.55%	0.64%	0.75%
One Year Prior (Feb 2012)	0.59%	0.70%	0.85%	N/A	N/A	N/A	N/A

10-year Treasury-note - The average 10-year yield forecast for Q1 2013 is 1.93%. The average forecast for the next six quarters are 2.04%, 2.18%, 2.32%, 2.51%, 2.67% and 2.83%. The current 10-year yield is 1.87%.

	Q1 2013	Q2 2013	Q3 2013	Q4 2013	Q1 2014	Q2 2014	Q3 2014
Current Survey (Feb 2013)	1.93%	2.04%	2.18%	2.32%	2.51%	2.67%	2.83%
Prior Survey (Jan 2013)	1.82%	1.94%	2.09%	2.26%	2.42%	2.58%	2.73%
One Year Prior (Feb 2012)	2.73%	2.90%	3.06%	N/A	N/A	N/A	N/A

30-year Treasury-bond - The average 30-year yield forecast for Q1 2013 is 3.10%. The average forecast for the next six quarters are 3.17%, 3.28%, 3.42%, 3.57%, 3.67% and 3.81%. The current 30-year yield is 3.07%.

	Q1 2013	Q2 2013	Q3 2013	Q4 2013	Q1 2014	Q2 2014	Q3 2014
Current Survey (Feb 2013)	3.10%	3.17%	3.28%	3.42%	3.57%	3.67%	3.81%
Prior Survey (Jan 2013)	2.98%	3.08%	3.19%	3.35%	3.47%	3.62%	3.75%
One Year Prior (Feb 2012)	3.73%	3.89%	4.05%	N/A	N/A	N/A	N/A

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

DOW	Up 93 to 13,993
NASDAQ	Up 30 to 3,159
S&P 500	Up 14 to 1,507
1-Yr T-bill	current yield 0.14%; opening yield 0.14%
2-Yr T-note	current yield 0.23%; opening yield 0.23%
5-Yr T-note	current yield 0.77%; opening yield 0.75%
10-Yr T-note	current yield 1.87%; opening yield 1.84%
30-Yr T-bond	current yield 3.07%; opening yield 3.03%

STRONG DATA AND BERNANKE'S TESTIMONY SUPPORT CONTINUED FED POLICY

Tuesday, February 26, 2013

BERNANKE SUGGESTS FED WILL CONTINUE ACCOMMODATION

This morning, Fed Chairman Bernanke addressed the Senate Banking Committee on his semi-annual state of the economy. Although the minutes to the January FOMC meeting had suggested the Fed might be getting closer to curtailing its’ super accommodative monetary policy, today’s comments suggested otherwise.

He first defended Fed policy by saying low interest rates have “…helped spark recovery in the housing market and led to increased sales and production of automobiles and other durable goods,” and then addressed lingering inflationary concerns in stating “…neither the FOMC nor private forecasters are projecting the development of significant inflation pressures.”

Another issue among market participants is that the extremely low rate environment has caused investors to reach for yield. Bernanke’s response to this was: “…we do not see the potential costs of the increased risk-taking in some financial markets as outweighing the benefits of promoting a stronger economic recovery and more rapid job creation.”

And finally, Bernanke gave his opinion on the increasingly likely budget sequestration, saying that the $85 billion in across-the-board spending cuts would place a "significant" burden on an already struggling economy. Instead, Bernanke believes Congress should address the deficit problem by making necessary cuts when the economy is strong enough to compensate.

STRONGER ECONOMIC DATA SUPPORTS FED ACTION

While the markets listened to the Fed Chairman for clues about future monetary policy, a number of economic indicators showed strengthening economic data, which further supported the positive impact of Fed action.

New home sales unexpectedly rose 15.6% in January to an annual sales rate of 437,000 units, the highest level since July 2008. The monthly percentage increase was the biggest since 1993. The sales jump whittled available new home supply down to the lowest level in nearly eight years and boosted the average new home price up another 2.1% to $226,400. New home sales account for just 7% of the market, but are a good indicator of overall supply. If inventories are low and sales are high, new homes are likely to be built. The supply of existing homes was 1.74 million in January, the lowest since 1999.

Another unexpected surprise this morning was a surge in consumer confidence. With gasoline prices up $0.50 since the year began, an increase in payroll taxes, and an impending budget sequestration, analysts had assumed a downbeat consumer, but this wasn’t the case. The Conference Board’s measure of consumer confidence rose from 58.4 to 69.6 in January, topping all forecasts.

Home Depot and Intel have led the DOW up in early trading, although the broader market is flat, while long Treasury yields are slightly lower with the expectation that the Fed will maintain current monetary policy for the foreseeable future.

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

DOW	UP 78 to 13,862
NASDAQ	DOWN 4 to 3,111
S&P 500	DOWN 1 to 1,486
1-Yr T-bill	current yield 0.15%; opening yield 0.15%
2-Yr T-note	current yield 0.24%; opening yield 0.24%
5-Yr T-note	current yield 0.75%; opening yield 0.76%
10-Yr T-note	current yield 1.85%; opening yield 1.86%
30-Yr T-bond	current yield 3.04%; opening yield 3.06%

JANUARY FOMC MINUTES AND INFLATION DATA

February 21, 2013

FOMC MINUTES REVEAL DISSENT AMONG MEMBERS

Yesterday, the release of the FOMC minutes for the January meeting surprised market participants as a number of committee members stated that an ongoing evaluation of costs and risks could lead the committee to decrease or even end Fed asset purchases before substantial improvement was made in the labor market. The latest round of quantitative easing doesn’t currently have an expiration date or a maximum purchase amount, so investors have been awaiting clarification from the Fed. The January minutes don’t provide this, but they do show that the number of Fed members expressing concern is growing. There is still a majority of members in favor of continued asset purchases, provided inflation remains in check. And so far, it is.

JANUARY INFLATION READINGS ARE TAME

This morning, the January consumer price index (CPI) was unchanged, the third straight month without an increase to headline consumer inflation. On a year-over-year basis, CPI was up a mild 1.6%, the lowest rate of increase in six months. If food and energy prices are excluded, core CPI rose 0.3% for the month and 1.9% year-over-year. The producer price index (PPI) was released on Tuesday and the numbers were also quite benign. PPI was up 0.2% during the month of January and 1.4% year-over-year. Core PPI was also up 0.2% for the month and 1.8% for the year. Although the Fed probably doesn’t put too much weight on these particular indicators, CPI and PPI are the most common and familiar inflation readings, and they seem to be well within the Fed’s preferred inflation range, allowing for continuation of current monetary policy.

EUROZONE PURCHASING MANAGERS INDEX SHOWS SLOWING

The February euro zone purchasing manager index (PMI) suggests that the current recession in Europe may be a bit deeper than most had anticipated. The composite PMI for both the factory and service sectors dropped from 48.6 to 47.3. Analysts believe this is consistent with a 0.3% contraction in GDP for the quarter.

Despite continued uncertainty over the impending sequestration, the S&P 500 reached a fresh 5-year high on Tuesday. However, after the Fed minutes were released on Wednesday, a sell-off that began that morning accelerated, and so far today, stocks are down again. With just a week to go, it appears as though the automatic Federal spending cuts could very well take place, presumably shaving another 0.2% to 0.3% off U.S. economic growth. This concern has curbed equity enthusiasm, and helped fuel a little bond market rally, driving long yields lower, from what had been a 10-month high on the 30-year Treasury.

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

DOW	DOWN 48 to 13,879
NASDAQ	DOWN 20 to 3,145
S&P 500	DOWN 7 to 1504
1-Yr T-bill	current yield 0.15%; opening yield 0.15%
2-Yr T-note	current yield 0.25%; opening yield 0.26%
5-Yr T-note	current yield 0.84%; opening yield 0.86%
10-Yr T-note	current yield 1.97%; opening yield 2.01%
30-Yr T-bond	current yield 3.16%; opening yield 3.20%

PAYROLL TAX EFFECT EVIDENT IN LOW RETAIL SALES NUMBER

Wednesday, February 13, 2013

RETAIL SALES MEET FORECAST

Headline retail sales rose just 0.1% during the month of January, matching the median Bloomberg forecast, after an unrevised 0.5% gain in December. Most experts believe the expiration of the “payroll tax holiday” was a primary factor in the slowing of consumer spending.

When autos, gas and building materials are factored out, resulting in the “control group” used to calculate GDP, sales also rose by 0.1%, but upward revisions boosted November and December monthly gains to 0.7%. This is further reason to expect the previously announced 0.1% GDP contraction of the fourth quarter will be revised upward into positive territory.

Another retail sales report, issued by “Retail Metrics, Inc” rose by a healthy 4.5% in January. This same-store sales measure of 20 major companies was actually the highest in 15 months.

The markets seem to view the sales data as a mixed bag, but given the pleasant weather conditions in January, you’d expect to see stronger spending. By all accounts, January weather was mild. According to the National Climatic Data Center, in the second week in January almost 900 daily "warmest low" temperature records were established.

Refinancing (or a lack thereof) may have played a minor role in the spending slump. The average 30-year fixed rate mortgage, according to the Mortgage Bankers Association, rose to 3.75% for the week ending February 8^th, up from a record low of 3.47% the first week in December.

FED VICE CHAIR SIGNALS RATE HIKES MAY BE FURTHER AWAY THAN MOST EXPECT

On Monday, Fed Vice Chairman Janet Yellen released a speech entitled “A Painfully Slow Recovery for America’s Workers: Causes, Implications and the Federal Reserve’s Response.” In her speech, Yellen pointed that the 6.5% unemployment rate and 2.5% inflation Fed targets are “thresholds for possible action, not triggers that will necessarily prompt an immediate increase” in the overnight funds rate. She went on to say that “when one of these thresholds is crossed, action is possible, but not assured.”

This suggest that tightening by the FOMC may still be many years down the road. As of now, the official unemployment rate is 7.9% and the Fed's favorite inflation measure, the core PCE deflator, has been increasing at a very modest 0.7% annual rate over the last six months.

Stocks are generally up in early trading, although the DOW is down on weakness from Coca-Cola and McDonald’s.

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

DOW	DOWN 25 to 13,993
NASDAQ	UP 16 to 3,202
S&P 500	UP 4 to 1,523
1-Yr T-bill	current yield 0.15%; opening yield 0.15%
2-Yr T-note	current yield 0.27%; opening yield 0.26%
5-Yr T-note	current yield 0.89%; opening yield 0.87%
10-Yr T-note	current yield 2.01%; opening yield 1.98%
30-Yr T-bond	current yield 3.22%; opening yield 3.19%

THE U.S. DEFICIT PICTURE IMPROVES

Friday, February 8, 2013

UPDATED DEFICIT NUMBERS

This week has been nearly devoid of major economic data releases, but there was some interesting news on Tuesday from the Congressional Budget Office (CBO) worth passing along. The CBO announced that it expects the U.S. government to run a deficit of $845 billion for fiscal year 2013, the first time the deficit has been below $1 trillion in five years. Although this still sounds like a huge number, it’s more than $500 billion below the peak deficit spending in 2008, and illustrates the positive effect even moderate economic growth can have on the bottom line. Data from the Office of Management and Budget shows Federal revenues increasing from $2.1 trillion to $2.9 trillion over the past four years. CNBC points out that the Federal government is still borrowing $0.24 out of every dollar spent, but we’re moving in the right direction …for now anyway.

The CBO predicts that the deficit should continue to fall in the next couple years, reaching $430 billion or roughly 2.4% of GDP by 2015. Unfortunately, whatever formula the CBO is using has the deficit creeping higher from there, hitting the trillion dollar mark again by the end of the 10-year time horizon. During the upcoming decade, deficit spending is expected to add another $7 trillion to the national debt which currently stands at $16.5 trillion.

The CBO projected that the U.S. economy would grow at a lackluster, but still positive 1.4% in 2013 before accelerating to 3.4% in 2014. Much of this year’s decrease in economic growth is being attributed to fiscal tightening. If the 2% payroll tax cut had simply been extended, and all spending cuts postponed into some future year, the GDP forecast would have been about 1.5 percentage points higher in the current fiscal year. Ironically, the CBO believes future GDP will be constrained if the government doesn't cut future deficits. This illustrates why it’s so difficult for current politicians to rein in spending – the pain of spending cuts would be immediate, while the benefit would not be realized until years later, presumably allowing a new group of political leaders to claim credit.

IMPROVED TRADE DATA BOOSTS ECONOMIC GROWTH

In other news from this morning, the U.S. trade balance narrowed from $48.6 billion in November to a three-year low of $38.5 billion in December. The primary driver was continuing gains in petroleum exports which rose by 8.5% in December after a 9.4% rise in November. After viewing this substantial improvement in the trade data, a number of economists have already revised their forecast for fourth quarter GDP, which was initially reported at -0.1%, upward into positive territory.

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

DOW	UP 42 to 13,986
NASDAQ	UP 27 to 3,192
S&P 500	UP 6 to 1,515
1-Yr T-bill	current yield 0.14%; opening yield 0.14%
2-Yr T-note	current yield 0.25%; opening yield 0.25%
5-Yr T-note	current yield 0.84%; opening yield 0.83%
10-Yr T-note	current yield 1.96%; opening yield 1.96%
30-Yr T-bond	current yield 3.17%; opening yield 3.17%

GOOD NEWS - UNDERLYING LABOR MARKET STRENGTH BOOSTS STOCKS

Friday, February 1, 2013

JOB REVISIONS PAINT A MUCH IMPROVED PICTURE

The January employment report, at first glance, was hardly exceptional. Nonfarm payrolls rose by a mediocre 157k last month, slightly below the median forecast of 165k, while the unemployment rate actually climbed from 7.8% to 7.9%. But, it was unexpected upward revisions to the prior months’ numbers that made this morning’s release the strongest in quite some time.

The revised tally added an additional 127k jobs to the previous two months, boosting December company job gains to 196k, and November gains to 247k. The annual benchmark revision (which reconciles corporate tax records to previous survey numbers) showed an additional 422k payroll jobs were added between April 2011 and March 2012, and another 647k from April 2011 forward. Before the revision, it appeared that 153k jobs per month had been created in 2012. Suddenly, the monthly average for 2012 is a much healthier 181k.

The January job gains were concentrated in health care (+23k), construction (+28k) and retail (+33k). January job losses were mostly in air transportation (-5k) and the government sector (-9k).

The brighter outlook apparently prompted more people to reenter the workforce, which caused the unemployment rate to rise from 7.8% to 7.9%. Although a rising rate of unemployment in the midst of an improving job market seems counterintuitive, it’s a normal phenomenon. Persons not actively seeking employment aren’t counted in the official number. Once they become encouraged enough to reenter the job hunt, they’re counted again. In essence, when the unemployment rate rises, it’s because the number of Americans resuming their search in that particular month exceeded the number of jobs created.

The total number of unemployed Americans actually moved a bit higher in January from 12.2 to 12.3 million, while those employed part-time for economic reasons held steady at 8 million. As the job picture continues to improve, many of these part-time workers will be shifted to full-time employment, or will compete for newly created full-time positions.

The number of Americans considered “marginally attached” to the labor force was down by 366k from the same point last year to 2.4 million. These people had sought work at some point in the past 12 months, but not in the last four weeks. Of these, 804k are considered “discouraged” workers and have stopped looking altogether because they believe no jobs are available to them. This is another dormant group that presumably will reenter the workforce as conditions improve and keep the official unemployment propped up. The Fed is not expected to begin raising interest rates until unemployment falls below 6.5%.

The equity markets apparently view the labor data as quite positive as the DOW is up 132 points on the day and within 170 points of its all-time high.

Bonds have rallied a tiny bit in early trading, pulling yields slightly lower.

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

DOW	UP 132 to 13,992
NASDAQ	UP 24 to 3,166
S&P 500	UP 9 to 1,507
1-Yr T-bill	current yield 0.13%; opening yield 0.13%
2-Yr T-note	current yield 0.25%; opening yield 0.26%
5-Yr T-note	current yield 0.85%; opening yield 0.88%
10-Yr T-note	current yield 1.96%; opening yield 1.99%
30-Yr T-bond	current yield 3.16%; opening yield 3.17%

U.S. ECONOMY SHRINKS IN INITIAL Q4 GDP READING

Wednesday, January 30, 2013

FOURTH QUARTER GDP DISAPPOINTS

The preliminary measure of fourth quarter GDP was expected to be quite a bit weaker than the 3.1% annualized growth rate of the third quarter, but turned out to be much worse …at least on the surface. This morning, the Commerce Department announced that GDP for the final quarter of 2012 had actually contracted at a 0.1% annualized rate. The Bloomberg median forecast had been an increase of 1.1%.

Fortunately, this is one of those data reports that improve significantly as you sift through the underlying numbers. The sharp drop in economic growth was mainly due to a big decrease in government spending and a reduction in business inventories. Overall government spending fell by 6.6%. Most of the decline can be attributed to a 15% drop in Federal spending, which was almost entirely due to a 22% plunge in defense spending.

Inventories rose by just $20 billion during the final quarter, well below the $60 billion increase in Q3. Slower inventory accumulation and the drop in Federal spending subtracted a combined 2.6 percentage points from GDP. By contrast, ever-important consumption expenditures rose at a 2.2% annualized pace, slightly above expectations and stronger than the 1.6% rise in the previous quarter.

There are a couple of points worth noting – the first is that even though the economy appeared to contract (thereby setting off a few inadvertent pre-recessionary alarm bells) there’s reason to expect subsequent upward revisions could boost GDP back into positive territory. And, lean inventories suggest future rebuilding, as long as consumption can stay on track. But, with future government spending almost certain to be cut later this year, this report provides a glimpse of the negative effect spending cuts will eventually have on the economy.

The equity markets are down just a bit in early trading, suggesting that investors are generally ignoring the GDP headline number. The tone of the stock market is more positive than one would expect given anemic economic growth and an uncertain outlook. However, the counterbalance to this is that borrowing costs for many businesses are at record lows, and according to Bloomberg News, 75% of the companies in the S&P 500 index that have already reported fourth quarter earnings have exceeded profit forecasts.

Bond yields have risen slightly in anticipation that Fed officials could signal an eventual end to the $85 billion per month asset purchase program as the first two-day FOMC meeting of the year concludes this afternoon.

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

DOW	DOWN 2 to 13,952
NASDAQ	DOWN 5 to 3,158
S&P 500	DOWN 2 to 1,503
1-Yr T-bill	current yield 0.13%; opening yield 0.13%
2-Yr T-note	current yield 0.27%; opening yield 0.28%
5-Yr T-note	current yield 0.90%; opening yield 0.88%
10-Yr T-note	current yield 2.02%; opening yield 2.00%
30-Yr T-bond	current yield 3.21%; opening yield 3.18%

JANUARY 2013 BLOOMBERG INTEREST RATE AND ECONOMIC SURVEYS

Tuesday, January 29, 2013

From January 4 through January 9, 2013, Bloomberg News surveyed 77 top economists for their most recent opinions on the U.S. economy and interest rates. The following are summaries of their responses:

The Economic Forecast

Unemployment Rate - The median forecast for Q1 2013 unemployment is 7.8%. The median forecast for the next five quarters are 7.7%, 7.6%, 7.5%, 7.4%, and 7.3%.

The U.S. economy added 155K jobs in December, slightly better than the 152K forecast. Revisions to the prior two months netted an additional 14K new jobs. Interestingly, at 153K per month, the average monthly increase in employment for 2012 was identical to the monthly gains seen in 2011.

Bolstered by reconstruction efforts following Hurricane Sandy and an improving housing market, new construction jobs rose 30K, while manufacturing and healthcare employment expanded by 25K and 45K, respectively. Losses were concentrated in the retail sector, where consumers’ fears of the fiscal cliff slowed employers hiring leading up to the holiday season. After growing by 143K in the previous three months, retail employment shrunk by 11K last month.

The unemployment rate held steady at 7.8% in December after November’s rate was upwardly revised from the initial report’s 7.7%. The broader U-6 unemployment rate (total unemployed, plus all marginally attached workers, plus part-time workers for economic reasons) was also unchanged at 14.4%. Despite the string of encouraging labor market reports, recent gains weren’t enough to chisel away at the 4.8 million long-term unemployed, who make up 39.1% of the unemployed.

Real GDP (annualized economic growth) - The median GDP growth forecast for Q4 2012 is +1.5%. The median forecast for the next six quarters are +1.5%, +2.1%, +2.5%, +2.7%, +2.8% and +2.9%.

The first look at Q4 GDP is due to be released tomorrow, and while the median forecast was for +1.5% growth, slower inventory replenishment and a drop in exports are expected to restrain GDP to its slowest pace of the year. Opinions vary of course, but some of the more distinguished firms’ predictions are illustrated in the table below, and most expect a below consensus reading.

Moderately improving employment numbers notwithstanding, there are still many hurdles yet to clear for the U.S. economy, many of which are out of the control of the private businesses that drive it. With the fiscal cliff partially averted, all eyes now turn to the debt ceiling, sequestration and the continuing resolution for the FY2013 budget. On the debt ceiling, the House of Representatives passed a bill on January 23^rd, suspending the nation’s debt ceiling limit through May 18^th. The bill still needs to pass the Senate and be signed by the president, but at the time of this writing, all signs point to both events occurring, perhaps as soon as this week. With the debt ceiling comfortably postponed, again, Washington’s attention will turn to the mandatory budget cuts (sequestration) on March 1^st and passage of a new continuing resolution prior to the current version’s expiration on March 27^th. Without a renewed continuing resolution, there’s a real possibility of a government shutdown like what occurred in 1995, when 800,000 “non-essential” government employees were furloughed. The full effect of the shutdown in 1995 subtracted a full point from GDP, and would likely have similar consequences this time around too.

Notable GDP forecasts from the survey:

Firm	Q4 2012
BofA Merrill Lynch	1.0%
Morgan Stanley	0.4%
JPMorgan Chase	0.5%
UBS	0.7%
Wells Fargo	0.7%

Consumer Prices - The median annualized consumer inflation forecast for Q4 2012 is +1.9%. The median forecast for the next six quarters are +1.7%, +2.0%, +2.0%, +2.0%, 2.2% and +2.2%.

The Producer Price Index (PPI) fell 0.2% during the month of December, the third straight decrease. On a year-over-year basis, headline PPI rose at a 1.3% pace. Core producer inflation was higher by 0.1% and 2.0% for the year. All around, PPI was softer than the market had expected.

Consumer inflation was muted as well. After a decline of 0.3% in November, the Consumer Price Index (CPI) was unchanged in December, while the Core CPI was only higher by 0.1%. Year-over-year, headline CPI rose 1.7%, compared to an increase of 1.9% for the core, which excludes food and energy.

Overall, inflationary pressures remain muted. That will allow the Fed to leave in place its accommodative monetary policy to help jump start the labor market.

The Interest Rate Forecast

Overnight Fed Funds - The MEDIAN fed funds forecast for Q1 2013 is 0.25%. The MEDIAN forecast for the next five quarters are 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 Federal Open Market Committee (FOMC) will announce its latest policy intentions on January 30^th. Recently, there has been a lot of speculation the Fed may begin taking some accommodation back as the economy has shown signs of improvement of late; i.e. December's employment report, improved housing data and some positive regional manufacturing reports. The market is trading as though the next rate hike will come as early as 2014, rather than 2015, and will be looking for signals in the announcement pointing to a shortened horizon for the next rate move, which is unlikely, or some indication of the Fed curtailing its $85 billion per month in MBS and Treasury purchases.

Two well respected economists, Ethan Harris of Bank of America and Chris Low of FTN Financial, disagree with the overall market consensus regarding both the rate hike and a reduction in Fed asset purchases. Low points to the resumption of the payroll tax on January 1^stcausing consumers to withdraw further from their already anemic spending patterns, and the negative effects of this reduction sending ripples through the rest of the economy. Remember, the Fed announced a new rate targeting policy last meeting, whereby any change in the fed funds rate will be be dependent upon actual economic data (unemployment below 6.5% and/or inflation above 2.5%), rather than arbitrarily pegging some future date for the first increase. Harris, meanwhile, simply points to the majority of the FOMC's voting members as being either "über-doves," or, at the very least, dove leaning, and there simply are not enough votes to slow down Chairman Bernanke's campaign to use the full force of the central bank’s balance sheet to stoke the economic recovery. If Messrs. Low and Harris are correct, then Fed watchers can expect more of the same...exceptionally low rates and an ever growing Fed balance sheet.

For what it's worth, the Fed's balance sheet surpassed $3 trillion last week.

2-year Treasury-note - The average 2-year yield forecast for Q1 2013 is 0.29%. The average yield forecast for the next six quarters are 0.33%, 0.39%, 0.45%, 0.55%, 0.64% and 0.75%. The current 2-yr Treasury yield is 0.28%.

In the tables below, it’s worth noting just how far off the mark these forecasts can be. A year ago, the survey projected the 2-yr Treasury yield for the current quarter would average 0.70%. Currently, the actual yield on the 2-yr is 0.28%. A similar story holds for the 10-yr and 30-yr.

	Q1 2013	Q2 2013	Q3 2013	Q4 2013	Q1 2014	Q2 2014	Q3 2014
Current Survey (Jan 2013)	0.29%	0.33%	0.39%	0.45%	0.55%	0.64%	0.75%
Prior Survey (Dec 2012)	0.29%	0.33%	0.37%	0.43%	0.51%	0.61%	N/A
One Year Prior (Jan 2012)	0.70%	0.89%	1.02%	N/A	N/A	N/A	N/A

10-year Treasury-note - The average 10-year yield forecast for Q1 2013 is 1.82%. The average forecast for the next six quarters are 1.94%, 2.09%, 2.26%, 2.42%, 2.58% and 2.73%. The current 10-year yield is 1.99%.

	Q1 2013	Q2 2013	Q3 2013	Q4 2013	Q1 2014	Q2 2014	Q3 2014
Current Survey (Jan 2013)	1.82%	1.94%	2.09%	2.26%	2.42%	2.58%	2.73%
Prior Survey (Dec 2012)	1.77%	1.89%	2.03%	2.16%	2.34%	2.50%	N/A
One Year Prior (Jan 2012)	2.76%	2.97%	3.14%	N/A	N/A	N/A	N/A

30-year Treasury-bond - The average 30-year yield forecast for Q1 2013 is 2.86%. The average forecast for the next six quarters are 2.93%, 3.04%, 3.15%, 3.30%, 3.46% and 3.59%. The current 30-year yield is 3.18%.

	Q1 2013	Q2 2013	Q3 2013	Q4 2013	Q1 2014	Q2 2014	Q3 2014
Current Survey (Jan 2013)	2.98%	3.08%	3.19%	3.35%	3.47%	3.62%	3.75%
Prior Survey (Dec 2012)	2.93%	3.04%	3.15%	3.30%	3.46%	3.59%	N/A
One Year Prior (Jan 2012)	3.77%	3.98%	4.16%	N/A	N/A	N/A	N/A

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

DOW	Up 74 to 13,956 (All time high was 14,164.53 in Oct-2007)
NASDAQ	Up 2 to 3,156
S&P 500	Up 8 to 1,508 (All time high was 1,565.15 in Oct-2007)
1-Yr T-bill	current yield 0.13%; opening yield 0.14%
2-Yr T-note	current yield 0.28%; opening yield 0.27%
5-Yr T-note	current yield 0.87%; opening yield 0.86%
10-Yr T-note	current yield 1.99%; opening yield 1.96%
30-Yr T-bond	current yield 3.18%; opening yield 3.14%

STRONG DATA SUPPORTS EQUITY GAINS

Thursday, January 17, 2013

DECEMBER ECONOMIC DATA PROVES BETTER-THAN-EXPECTED

With the holidays over, and traders back at work, this week has been chock full of data. Fortunately, most of it has been surprisingly good. On Tuesday, retail sales for the month of December proved better-than-expected, rising by 0.5% and topping the less optimistic Bloomberg median forecast of 0.2%. The primary strength of the report was concentrated in motor vehicles. Auto sales followed a 2.7% November increase with a 1.6% rise, marking the best two-month performance for auto dealers since 2008. Weakness was mostly found in gasoline station sales which fell by 1.6% in December after a 4.5% decline in November. The price of gasoline has fallen steadily since the beginning of September. Since retail sales are not price adjusted, when gas prices decline, sales receipts drop. If autos and gas stations are both excluded from the calculation, retail sales rose at a slightly better rate of 0.6% in December. Given all the fiscal uncertainty in December, consumers surprisingly held their own.

On the inflation front, the producer price index (PPI) for December fell by a larger-than-expected 0.2%, the third straight decline. Headline producer inflation is now rising at a very pedestrian 1.3% pace, the slowest in six months. The consumer price index (CPI), which is a much more important inflation indicator, was unchanged in December and up 1.7% on a year-over-year basis. Energy costs dropped 1.2%, as the average price for a gallon of gasoline fell to the lowest level in a year. Core CPI, which excludes food and energy costs, rose by just 0.1% in December, up 1.9% on a year-over-year basis. With the economy in a low gear and facing uncertain headwinds, inflationary pressures appear benign. In theory, this grants the Fed considerable leeway in conducting its monetary policy.

The “Beige Book,” a report prepared for use by Fed officials at FOMC meetings, showed a pick-up in activity across most of the 12 Fed districts in December. The only district reporting a slowdown was St. Louis, although all 12 reported some growth in consumer spending, while categorizing overall economic growth as “modest” or “moderate.” Auto sales were steady or strong in 10 districts, while tourism held steady or grew in all but one reporting district.

This morning, December housing starts jumped 12.1% to a 954,000 unit annual rate, the highest level since June 2008. Experts had forecast a lesser 3.3% rise. The year-over-year 28.1% increase represented the biggest annual gain since 1983, but starts are still less than half of the frothy historical peak in 2005. A huge 20.3% increase in multifamily housing brought apartment and townhome starts up to 338,000, a level last seen during the prerecession housing expansion. By contrast, single-family housing starts rose 8.1% to 616,000. Although still significantly below the prerecession housing bubble levels, it still represented a 23% gain for 2012.

Many expected starts in the Northeast to be bolstered by Hurricane Sandy reconstruction efforts, but the 21.4% gain in that storm-damaged region was identical to the increase in the Midwest, and close to the 18.7% west coast gains. In other housing news from earlier in the week, the National Association of Home Builders/Wells Fargo homebuilder’s index held steady in January at 47, the highest level since April 2006, while buyer traffic reportedly climbed to a six-year high.

Also this morning, initial jobless claims (weekly filings for first-time unemployment benefits) dropped by 37,000 during the second week of January to a new five-year low of 335,000. This seems to suggest big improvement in the labor markets. However, the Labor Department cautioned the data may have been distorted by a faulty seasonal adjustment. Still, data on the whole, has been much better than anticipated given the continued uncertainty over the debt ceiling and Federal spending cuts.

Equity markets have rallied in early trading with the S&P 500 reaching another five-year high. Treasury prices are generally lower (yields slightly higher) this morning on the improved economic outlook.

MARKET INDICATIONS AS OF 9:50 A.M. CENTRAL TIME

DOW	UP 57 to 13,569
NASDAQ	UP 13 to 3,130
S&P 500	UP 7 to 1,473
1-Yr T-bill	current yield 0.14%; opening yield 0.14%
2-Yr T-note	current yield 0.25%; opening yield 0.24%
5-Yr T-note	current yield 0.77%; opening yield 0.74%
10-Yr T-note	current yield 1.86%; opening yield 1.82%
30-Yr T-bond	current yield 3.05%; opening yield 3.01%

THE FED RECORDS RECORD PROFITS IN 2012

Friday, January 11, 2013

CENTRAL BANK INCOME SOARS
The Wall Street Journal reported that the Federal Reserve sent a record $88.9 billion in profits to the U.S. Treasury last year, breaking the previous high of $79.3 billion from 2010. Nearly 90% of last year’s profits resulted from interest income generated from the $2.9 trillion dollar bond portfolio acquired as part of the Fed’s monetary policy plan to stimulate economic growth. Needless to say, before the financial crisis, the Fed’s smaller $900 billion dollar portfolio was earning significantly less. To put the earnings in context, the Fed nearly doubled the private company record of $45 billion earned by ExxonMobil in 2008.

It’s been an unusually light week for economic data. However, next week will be a different story with retail sales, consumer and producer inflation, and housing numbers all on tap.

Government yields are essentially unchanged on the week all along the curve.

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

DOW	DOWN 25 to 13,446
NASDAQ	DOWN 5 to 3,116
S&P 500	DOWN 3 to 1,469
1-Yr T-bill	current yield 0.13%; opening yield 0.13%
2-Yr T-note	current yield 0.25%; opening yield 0.25%
5-Yr T-note	current yield 0.79%; opening yield 0.79%
10-Yr T-note	current yield 1.90%; opening yield 1.90%
30-Yr T-bond	current yield 3.09%; opening yield 3.08%

BLOOMBERG REPORTS STATE AND LOCAL GOVERNMENTS ARE POISED FOR GROWTH IN 2013

Tuesday, January 8, 2013

A FORECAST FOR BETTER DAYS AHEAD
Over the past five years, state and local governments have tightened their belts and shed half a million workers. Now, with revenues increasing, job growth is apparently set to resume. Bloomberg News reported this morning that state and local governments, which account for 12% of the U.S. economy, will not restrain GDP growth for the first time since 2009. Mark Zandi, the Chief Economist at Moody’s, believes state and local governments are in their best financial shape since 2007 and predicted that by the fourth quarter, payrolls will be 220,000 higher than in the same period in 2012. According to the National Governors Association, state revenue will increase by 3.9% for the 2012-2013 budget year, exceeding the peak established before the recession began.

Last week’s fiscal cliff “resolution” appeared positive for municipals in that the tax-exempt status of municipal debt was unaffected at the same time marginal tax rates for wealthy individuals increased. A higher tax rate enhances the value of tax-exempt securities. However, some investors, including PIMCO’s Bill Gross, are taking a cautious approach to the municipal market given that Congress and the administration will be making some extremely difficult decisions on Federal spending cuts in the coming weeks. Austerity at the national level could mean less dollars allocated to the states, which according to the Rockefeller Institute of Government, currently receive one-third of their revenue from Washington.

Stocks are off in early trading after a down day on Monday, while Treasury bond yields are slightly lower on the long end of the curve.

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

DOW	DOWN 62 to 13,322
NASDAQ	DOWN 8 to 1,447
S&P 500	DOWN 15 to 3,084
1-Yr T-bill	current yield 0.13%; opening yield 0.13%
2-Yr T-note	current yield 0.26%; opening yield 0.26%
5-Yr T-note	current yield 0.79%; opening yield 0.81%
10-Yr T-note	current yield 1.87%; opening yield 1.90%
30-Yr T-bond	current yield 3.07%; opening yield 3.10%

THE DECEMBER PAYROLL REPORT IS A YAWNER

Friday, January 4, 2013

PAYROLLS RISE MODERATELY WHILE UNEMPLOYMENT HOLDS STEADY

I’ve been struggling with how to frame the December employment report. It wasn’t strong or weak, or particularly disappointing, or surprising in any way, and it isn’t likely to change any minds at the Fed. The analysts on Bloomberg radio weren’t excited in the least, but the folks at CNBC seemed to be. The bottom line is that the December unemployment rate exactly matched the revised 7.8% rate from November, while December nonfarm payrolls increased by 155,000, nearly equal to the 153,000 monthly average for all of 2012 …and the 153,000 monthly average for 2011.

On one hand, this level of growth is a terrific improvement from the 422,000 average monthly loss experienced in 2009. Of course, the problem is there are still 12.2 million unemployed Americans and the estimated number of new workers entering the workforce every month is around 150,000, so the amount of job creation currently taking place is only enough to absorb the new workers, and not chip away at unemployment. But the unemployment rate has actually been falling over the past couple of years because fewer Americans are actively seeking jobs. Keep in mind that in order for someone to be officially counted as unemployed, they must have looked for work sometime in the previous four weeks. The broader U6 measure which includes everyone who would accept a full-time job if one were offered, remained at 14.4%. The labor market participation rate held steady at 63.6% in December, just above historical lows. This rate, representing the percentage of all 16- to 64-year olds who are either employed or would like to be, averaged 66% as recently as 2008.

In addition to the 155k December payroll gain, which was slightly above the Bloomberg median forecast, November payrolls were revised higher by 15k. The new December jobs were concentrated in health care (+45k), food service and drinking establishments (+38k), construction (+30k) and manufacturing (+25k). The jump in construction can be largely attributed to rebuilding efforts after Superstorm Sandy. The big manufacturing increase was a surprise as the median forecast was just 4k. Jobs losses were concentrated in retail (-19k) and government (-13k).

There were some solid underlying numbers in the December report that are worth mentioning as well. The average work week rose by six minutes to 34.5 hours, while average hourly earnings increased by $ 0.07 to $23.73. On a year-over-year basis, earnings are up a solid 2.1%.

Yields on the short end of the curve are virtually unchanged, reflecting the likelihood that the Fed will hold short rates steady for the foreseeable future. Yields on the long end are slightly higher. The reason for this has less to do with the employment report and more to do with yesterday’s release of the December FOMC meeting minutes.

In the minutes, Fed officials indicated that QE3 could end as soon as 2013. Specifically, a few committee members expect assets purchases to continue “until the end of 2013,” while several others would “slow or stop purchases well before the end of 2013.” If the Fed is not buying securities in the future, there will be considerably more supply in the market, which suggests that longer yields would rise.

The 10-year Treasury yield, currently at 1.94%, had closed at 1.70% last Friday. The 30-year Treasury bond yield is 3.12% this morning, up from 2.87% last Friday.

U.S.PURCHASING MANAGERS OUTLOOK IMPROVES

In other news, the ISM manufacturing index, released on Wednesday, rose from a three-year low of 49.5 to 50.7, thus reentering expansion territory. Manufacturing represents roughly 12% of the U.S. economy and has been slowing in recent years. The ISM factory index averaged 51.7 for all of 2012, down from 55.2 in 2011 and 57.3 in 2010. Most of the decline can be attributed to a slowing global economy with a depressed appetite for U.S. exports.

This morning, the December ISM non-manufacturing (service sector) index unexpectedly rose from 54.7 to 56.1, the highest level since February. The main drivers were the new orders component, which increased from 58.1 to 59.3 and the employment component which rose from 50.3 to 56.3. Most other components fell.

These two purchasing managers indexes are reflective of GDP growth in the 2% range. The historical average economic growth rate in the U.S. is around 3%.

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

DOW	UP 1 to 13,393
NASDAQ	DOWN 6 to 3,095
S&P 500	Up 1 to 1,455
1-Yr T-bill	current yield 0.14%; opening yield 0.14%
2-Yr T-note	current yield 0.26%; opening yield 0.26%
5-Yr T-note	current yield 0.82%; opening yield 0.82%
10-Yr T-note	current yield 1.94%; opening yield 1.91%
30-Yr T-bond	current yield 3.15%; opening yield 2.87%

FISCAL CLIFF BRIDGE AVERTS FALL, BUT...

Wednesday, January 2, 2013

CLIFF RESOLUTION IS HARDLY CAUSE FOR CELEBRATION

The “Fiscal Cliff” was averted in a last-minute compromise that many consider a win for the Democrats. Unfortunately, the really hard decisions were not made, only postponed for another two months. Another potentially ugly debt ceiling debate will take place over the next 60 days and critical long-term spending cuts have yet to be addressed.

The important issues that were resolved (for the time being) are:

Federal long-term unemployment benefits were extended for another year.
The Bush tax cuts were extended permanently for individuals earning less than $400,000 and families earning less than $450,000. Those earning above these thresholds will see incremental tax rates revert back from 35% to 39.6%.
The payroll tax, which funds social security, will revert back from the “tax holiday” rate of 4.2% to 6.2%. This means that everyone will resume paying at least 2% more in 2013.
The dividend and capital gains tax rates will increase from 15% to 20% for individuals earning above $400,000 and families above $450,000.
The estate tax will permanently increase from 35% to 40%. Individual estates will be tax-exempt on the first $5 million, while family estates will not be taxed on the first $10 million.
Certain individual tax breaks, including child tax credits, will be extended for another five years.
Certain business tax credits will be extended for another year.
The alternative minimum tax will now be permanently indexed to inflation instead of being “patched” annually. This will prevent an estimated 30 million middle- and upper-class taxpayers from being hit with an average increase of $3,000.

The “sequestration” or sequester cuts, which are what we are now calling the $1.2 trillion in across-the-board spending cuts that were scheduled to begin this year after the “Super Committee” failed to reach an agreement in November 2011, were postponed.

The Congressional Budget Office (CBO) reported on Tuesday that the new fiscal compromise would increase the deficit by $3.9 trillion over the next 10 years.

There is no word from Moody’s on the possibility of a U.S. ratings downgrade as a result of Congress failing to address the long-term deficit problem.

The equity markets are in the midst of a celebratory rally, while intermediate and long bond yields have risen.

For anyone who hasn’t experienced enough frustration over the Federal budget process, considering reading “The Price of Politics” by Bob Woodward. This remarkably dull book provides an insider view on the budget ceiling negotiations from July and August 2010, which ultimately resolved nothing and resulted in S&P lowering the United States credit rating from AAA to AA+.

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

DOW	UP 223 to 13,327
NASDAQ	UP 68 to 3,087
S&P 500	UP 26 to 1,446
1-Yr T-bill	current yield 0.14%; opening yield 0.14%
2-Yr T-note	current yield 0.25%; opening yield 0.25%
5-Yr T-note	current yield 0.76%; opening yield 0.72%
10-Yr T-note	current yield 1.83%; opening yield 1.76%
30-Yr T-bond	current yield 3.04%; opening yield 2.95%

THE CLOCK IS TICKING AS THE CLIFF APPROACHES

Thursday, December 27, 2012

POLITICAL LEADERS ARE BACK AT WORK AFTER A SHORT BREAK

It’s as a holiday-shortened, light-trading week with several minor economic releases being overshadowed, yet again, by the “Fiscal Cliff.” President Obama returned from Hawaii to Washington the day after Christmas. On the same day, Treasury Secretary Tim Geithner informed Senate Majority Leader Harry Reid that the debt ceiling limit would be reached on December 31^st, and as a result the Treasury planned to begin extraordinary measures to create $200 billion in additional headroom. Geithner said these actions would provide two months of breathing room under normal circumstances. Of course, these are not normal circumstances.

Both houses of Congress resumed discussions this morning. Republican leaders said they would call a House vote on any plan the Senate managed to pass this year. However, Harry Reid and Minority Leader Mitch McConnell have reportedly not spoken a word to each other since before the Christmas break. This morning, Reid admitted that he didn’t see how a deal could get done before year end. This stark admission seemed to turn the equity markets, which were actually up a bit in early trading, downward. Until a deal is reached, stocks remain vulnerable.

ECONOMIC DATA IS MIXED

On Wednesday, the S&P/Case Shiller 20-city home price index for October showed a 4.3% annual gain, the biggest percentage increase in 2.5 years.

This morning, first-time filings for unemployment benefits for the week ending December 22^nd, dropped by 12k to 350k, pushing the four-week moving average to a five-year low. Although the labor market does seem to have stabilized in front of the cliff, this particular weekly reading was heavily influenced by early holiday closings at state unemployment offices.

The Conference Board’s consumer confidence index dropped from 71.5 to 65.1 in December, reflecting concern over fiscal problems in Washington. Just two months ago, consumer confidence had reached a five-year high of 73.1, so the sharp two-month decline is troubling. Oddly enough, the measure of present conditions in December actually rose from 57.4 to 62.8, the highest since August 2008, but the future expectations index plunged from 80.9 to 66.5 as the six-month outlook dimmed. January confidence readings will be closely tied to the resolution, or lack of resolution reached in D.C.

New home sales rose by 4.4% in November to an annual rate of 377,000. This was the highest sales level since April 2010, which represented the end of the Federal homebuyer tax credit program. Although the improved November sales pace was still over a million units below the 2005 bubble peak of 1,389,000, the number of new homes available for sale in November was just 149,000, a mere fraction of what was on the market during the ill-fated housing boom. Presumably, as builders add inventory in 2013, new home sales will increase.

2012 comes to a close amid unprecedented uncertainty.

Treasury yields are generally lower this morning as equity investors seek the relative safety and stability of the bond market.

MARKET INDICATIONS AS OF 10:50 A.M. CENTRAL TIME

DOW	DOWN 84 to 13,031
NASDAQ	DOWN 23 to 2,967
S&P 500	DOWN 8 to 1,405
1-Yr T-bill	current yield 0.14%; opening yield 0.15%
2-Yr T-note	current yield 0.26%; opening yield 0.27%
5-Yr T-note	current yield 0.73%; opening yield 0.76%
10-Yr T-note	current yield 1.72%; opening yield 1.75%
30-Yr T-bond	current yield 2.90%; opening yield 2.92%

DECEMBER 2012 BLOOMBERG INTEREST RATE AND ECONOMIC SURVEYS

Friday, December 21, 2012

From December 7 through December 12, 2012, Bloomberg News surveyed 86 top economists for their most recent opinions on the U.S. economy and interest rates. The following are summaries of their responses:

The Economic Forecast

Unemployment Rate - The median forecast for Q4 2012 unemployment is 7.8%. The median forecast for the next six quarters are 7.8%, 7.75%, 7.7%, 7.55%, 7.5% and 7.4%.

The U.S. economy added 146k jobs in November, better than the 85K forecast leading up to the report, but downward revisions to the previous two months erased 49k jobs from the September/October tally. According to the Bureau of Labor Statistics, most of November’s gains came from the Retail industry (+52.6K), specifically clothing stores where 33K new employees were hired ahead of the Christmas shopping season. The next largest gain, +23.3K, came in “Administrative and Support Services.” So, after the downward revisions, the net result for November labor market was a sub 100K gain, 58% of which consisted of relatively low paying, retail and administrative jobs, many of which are likely temporary and/or part-time.

The unemployment rate fell from 7.9% in October to 7.7% in November, its lowest level since December 2008. The broader U-6 unemployment rate (total unemployed, plus all marginally attached workers, plus part-time workers for economic reasons) fell to 14.4% in November from 14.6%.

Real GDP (annualized economic growth) - The median GDP growth forecast for Q4 2012 is +1.4%. The median forecast for the next six quarters are +1.6%, +2.1%, +2.5%, +2.7%, +2.8% and +2.9%.

The final revision to third quarter domestic product (GDP) pushed the annualized growth rate of the economy up from 2.7% to 3.1%. This solidified third-quarter growth as the strongest of the year after 2.0% and 1.3% growth in Q1 and Q2. Consumer spending contributed 1.6 percentage points, while business inventory growth added more than 0.7. The problem with inventory growth is that if sales don’t keep pace with expectations, the effect could be reversed in future months. A degree of slowdown is already expected in the coming quarters as the Bloomberg median GDP forecast for the initial quarter of the New Year is a diminished 1.7%. However, even this lackluster growth rate implies some of the major fiscal issues will be resolved in a satisfactory manner.

Notable GDP forecasts from the survey:

Firm	Q4 2012	Q1 2013
BofA Merrill Lynch	1.0%	1.0%
Morgan Stanley	0.7%	0.8%
JPMorgan Chase	1.5%	1.0%
UBS	1.0%	N/A
Wells Fargo	0.7%	0.6%

Consumer Prices - The median annualized consumer inflation forecast for Q4 2012 is +2.0%. The median forecast for the next six quarters are +1.7%, +2.0%, +2.1%, +2.1% and +2.2%.

The Producer Price Index (PPI) fell 0.8% during the month of November. On a year-over-year basis, headline PPI was rose at a 1.5% pace. Core producer inflation was higher by 0.1% and 2.2% for the year. Wholesale prices have been kept in check by falling fuel prices. Nationwide, gasoline prices have dropped 13 cents per gallon in November, and nearly 50 cents since mid-October.

Consumer inflation has fallen as well. After a very small increase last month, the Consumer Price Index (CPI) fell 0.3% in November as a result of the lower energy prices. Headline CPI rose 1.8% in the 12 months ending November. Excluding food and energy, the core CPI increased by 0.1% in November and 1.9% year-over-year.

The Interest Rate Forecast

Overnight Fed Funds - The MEDIAN fed funds forecast for Q4 2011 is 0.25%. The MEDIAN forecast for the next five quarters are 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 its last meeting, the Federal Open Market Committee (FOMC) continued its open-ended commitment to purchase new, mortgage-backed securities at $40 billion per month and initially replace “Operation “Twist” with a program to purchase long-term bonds at a pace of $45 billion per month. In addition, the Federal Reserve will continue to replace any maturing, mortgage-backed securities rolling off the balance sheet due largely to refinancing.

The Committee also held its overnight lending rate in the zero to 0.25% range, but rather than arbitrarily peg some future date for the first increase, the move will now be dependent upon actual economic data. The FOMC said it would hold the fed funds rate near zero until unemployment dips below 6.5% and/or inflation moves above 2.5%, although the language around the targets was vague.

2-year Treasury-note - The average 2-year yield forecast for Q4 2012 is 0.27%. The average yield forecast for the next six quarters are 0.29%, 0.33%, 0.37%, 0.43%, 0.51% and 0.61%. The current 2-yr Treasury yield is 0.26%.

	Q4 2012	Q1 2013	Q2 2013	Q3 2013	Q4 2013	Q1 2014	Q2 2014
Current Survey (Dec 2012)	0.27%	0.29%	0.33%	0.37%	0.43%	0.51%	0.61%
Prior Survey (Nov 2012)	0.28%	0.32%	0.36%	0.41%	0.50%	0.55%	0.65%
One Year Prior (Dec 2011)	0.67%	0.91%	1.12%	N/A	N/A	N/A	N/A

10-year Treasury-note - The average 10-year yield forecast for Q4 2012 is 1.68%. The average forecast for the next six quarters are 1.77%, 1.89%, 2.03%, 2.16%, 2.34% and 2.50%. The current 10-year yield is 1.75%.

	Q4 2012	Q1 2013	Q2 2013	Q3 2013	Q4 2013	Q1 2014	Q2 2014
Current Survey (Dec 2012)	1.68%	1.77%	1.89%	2.03%	2.16%	2.34%	2.50%
Prior Survey (Nov 2012)	1.72%	1.82%	1.95%	2.10%	2.27%	2.43%	2.59%
One Year Prior (Dec 2011)	2.77%	2.97%	3.10%	N/A	N/A	N/A	N/A

30-year Treasury-bond - The average 30-year yield forecast for Q4 2012 is 2.86%. The average forecast for the next six quarters are 2.93%, 3.04%, 3.15%, 3.30%, 3.46% and 3.59%. The current 30-year yield is 2.93%.

	Q4 2012	Q1 2013	Q2 2013	Q3 2013	Q4 2013	Q1 2014	Q2 2014
Current Survey (Dec 2012)	2.86%	2.93%	3.04%	3.15%	3.30%	3.46%	3.59%
Prior Survey (Nov 2012)	2.86%	2.94%	3.07%	3.19%	3.36%	3.54%	3.66%
One Year Prior (Dec 2011)	3.79%	4.02%	4.21%	N/A	N/A	N/A	N/A

MARKET INDICATIONS AS OF 2:20 P.M. CENTRAL TIME

DOW	Down 134 to 13,177
NASDAQ	Down 36 to 3,013
S&P 500	Down 18 to 1,423
1-Yr T-bill	current yield 0.14%; opening yield 0.14%
2-Yr T-note	current yield 0.26%; opening yield 0.25%
5-Yr T-note	current yield 0.75%; opening yield 0.74%
10-Yr T-note	current yield 1.76%; opening yield 1.74%
30-Yr T-bond	current yield 2.93%; opening yield 2.92%

FINAL REVISION TO Q3 GDP TOPS 3%; HOME SALES EXPAND

Thursday, December 20, 2012

Q3 GDP EXCEEDS 3% IN FINAL REVISION
The third and final revision to Q3 gross domestic product pushed the annualized growth rate up from 2.7% to 3.1%, making the third quarter the strongest of the year following growth of 2.0% in Q1 and 1.3% in Q2. Consumer spending rose at a 1.6% annual pace, contributing 1.1% to Q3 GDP. Also making a positive contribution were state and local governments who made their first positive contribution to GDP since Q3-2009, adding 0.04 percentage points. As we reported at the last revision, growth in inventories accounted for a large part of the third quarter’s gain, contributing 0.73% to growth. This is viewed somewhat negatively as it suggests that companies may need to pare back inventories in subsequent quarters, which will hurt growth in Q4 and beyond. Fiscal cliff issues and cooling global demand are expected to be a drag in the current quarter and into 2013. In fact, the Bloomberg median GDP forecast for Q4-2012 and Q1-2013 are only 1.4% and 1.6% respectively.

EXISTING HOME SALES HIT THREE YEAR HIGH
While economists may be expecting GDP growth to slow, home sales are on fire. Sales of previously owned homes in the U.S. climbed 5.9% in November to a 5.04 million unit annual rate, the fastest pace since November 2009. The increasing demand is eating up inventory as the number of existing homes for sale dropped to an 11-year low of 2.03 million. At the current sales pace that inventory would last just 4.8 months, the lowest months’ supply since September 2005. Home prices have also turned upward with the median price of an existing home climbing to $180,600, an increase of 10.1% from a year ago. An improving job market and record low interest rates are clearly boosting demand for housing. The Fed has got to be pleased with this and deserves at least some of the credit for the recent strength in housing.

FDIC UNLIMITED INSURANCE SET TO EXPIRE- BE PREPARED!
We have mentioned this a number of times before but everyone needs to be aware that the FDIC’s program to provide unlimited insurance on non-interest bearing demand deposits is set to expire on December 31^st. Investors and depositors relying on this insurance need to be prepared. Work with your bank to provide appropriate collateral or invest the funds elsewhere. Short-term investment yields have fallen sharply in recent days and money market funds are dealing with a large influx of cash. A report in today’s Wall Street Journal suggests that the large money fund complexes, including Fidelity, Federated and Black Rock, are preparing for the possibility of negative yields and potentially closing their funds to new cash.

Meanwhile, markets continue to be batted around by politicians.

Happy Holidays to all!

MARKET INDICATIONS AS OF 10:20 A.M. CENTRAL TIME

DOW	Down 1 to 13,251
NASDAQ	Down 2 to 3,042
S&P 500	Up 2 to 1,438
1-Yr T-bill	current yield 0.15%; opening yield 0.15%
2-Yr T-note	current yield 0.27%; opening yield 0.28%
5-Yr T-note	current yield 0.76%; opening yield 0.77%
10-Yr T-note	current yield 1.79%; opening yield 1.80%
30-Yr T-bond	current yield 2.98%; opening yield 2.99%

A FLURRY OF GOOD NEWS

December 13, 2012

RETAIL SALES REBOUND

Consumers spent more in November on just about everything but gasoline. Retail sales in the U.S. rose by 0.3%, reversing a 0.3% decline in October. Although the gain was less than the median forecast for a 0.5% increase, it had been restrained by the biggest drop in gas station receipts in four years, which is a direct result of falling gasoline prices since retail sales are not price adjusted. According to AAA, the average pump price fell from $3.70 to $3.44 last month.

Vehicle sales in November jumped to a four-year high of 15.5 million annual units, due in part to Americans buying replacement cars and trucks after losing their vehicles to Superstorm Sandy. When the volatile auto component is excluded, there was no change in retail sales in November. When autos, gas and building materials are subtracted, the “control group” used to calculate GDP rises by a respectable 0.5%, up from 0.0% in October. All in all, consumers don’t seem to be quite as rattled about the uncertainty in Washington as most would have guessed.

INFLATION IS WELL BEHAVED AND FEWER AMERICANS FILE FOR UNEMPLOYMENT

The Producer Price Index (PPI), a measure of production costs, actually fell by 0.8% in November, following a smaller 0.2% drop in October. Again, falling energy costs had a significant effect on the headline number. When food and energy prices are excluded, core PPI rose by just 0.1%. On a year-over-year basis, headline PPI is rising at a benign 1.5% rate, while core PPI is up 2.2%.

New filings for first-time unemployment benefits fell in the week ending December 8^th by 29,000 to 343,000, which probably sounds like a lot, but it’s actually the lowest weekly total since reaching a four-year low of 342,000 two months ago. This hints at labor market improvement.

Bond yields on the intermediate-to-long end continue to creep a bit higher in early morning trading, which may have something to do with today’s slightly better economic numbers suggesting that new Fed economic indicator targets may be reached a little earlier, or it might be residual displeasure that Fed officials didn’t offer a bigger dose of stimulus at yesterday’s FOMC meeting. Short yields are virtually unchanged.

Equities futures were up early, but stock gains mostly dissipated when the markets opened. At this point, there’s no clear direction.

MARKET INDICATIONS AS OF 9:40 A.M. CENTRAL TIME

DOW	DOWN 6 to 13,329
NASDAQ	UP 7 to 3,020
S&P 500	UP 3 to 1,424
1-Yr T-bill	current yield 0.14%; opening yield 0.14%
2-Yr T-note	current yield 0.25%; opening yield 0.25%
5-Yr T-note	current yield 0.68%; opening yield 0.65%
10-Yr T-note	current yield 1.73%; opening yield 1.70%
30-Yr T-bond	current yield 2.92%; opening yield 2.89%

THE FED SHIFTS TARGETS AT THE FINAL FOMC MEETING OF 2012

Wednesday, December 12, 2012

FOMC TURNS AWAY FROM “MID-2015” TIGHTENING DATE

Fed officials concluded their final FOMC meeting of the year with announcements that were newsworthy, although fully expected. The most important of which is that the FOMC dropped the date-specific initial rate hike expectation. The “at least mid-2015” timeframe has now been replaced with actual economic data targets. The FOMC has said it will hold the fed funds rate near zero until the unemployment rate dips below 6.5% and/or future inflation expectations rise above 2.5%. Actually, Fed officials gave themselves quite a bit of leeway on these targets by adding that they will “consider other information, including additional measures of labor market conditions, indications of inflation pressures and inflation expectations, and readings on financial developments.”

Note that the current official unemployment rate is 7.7%, but the labor market participation rate is at the lowest point in over 30 years, and the broader U6 measure of unemployment is 14.4%. In theory, if the economy were to strengthen in the future and hiring were to increase, the millions of people who have abandoned job searches and part-timers seeking full-time employment would reenter the workforce, and keep the unemployment rate from falling too much, or perhaps cause it to inch higher. So, the days of 6.5% unemployment are probably still many years away.

As far as inflation is concerned, the Fed’s favorite measure, the personal consumption expenditure (PCE) deflator, is currently rising at around 1.5%, and with global demand slowing (both the 17-member eurozone and Japan have recently reentered recession), an inflation rate above 2.5% is also unlikely anytime soon.

To the surprise of few, the Fed also voted to continue buying $40 billion in mortgage-backed securities every month as part of the most recent round of quantitative easing (QE3), which has no specific end date or targeted total purchase amount. They will also continue reinvesting all principal payments received into additional agency mortgage-back securities. On top of this, the FOMC voted to begin outright purchases of Treasury securities after “operation twist” ends later this month. The targeted Treasury purchase amount will be $45 billion per month, which suggests that the Fed’s security portfolio could approach $4 trillion within the next couple of years. The Treasury purchases (fortunately) will be in the long-to-intermediate area of the curve, which suggests that mortgage lending rates should continue to stay very low for the foreseeable future.

The bond market has sold off after the Fed announcement (yields slightly higher), suggesting that bond investors had expected the Fed to provide even more accommodation than they did. The DOW was up 80 points before the Fed announcement, but gains have totally evaporated since.

MARKET INDICATIONS AS OF 3:15 P.M. CENTRAL TIME

DOW	DOWN 3 to 13,245
NASDAQ	DOWN 8 to 3,014
S&P 500	UNCHANGED at 1,428
1-Yr T-bill	current yield 0.15%; opening yield 0.15%
2-Yr T-note	current yield 0.24%; opening yield 0.24%
5-Yr T-note	current yield 0.65%; opening yield 0.64%
10-Yr T-note	current yield 1.70%; opening yield 1.66%
30-Yr T-bond	current yield 2.90%; opening yield 2.84%

UNDERLYING EMPLOYMENT NOT AS STRONG AS THE HEADLINE

Friday, December 7, 2012

NOVEMBER LABOR MARKET REPORT

Labor analysts had braced for a significant impact from Superstorm Sandy on the November jobs report, but the actual numbers showed little negative effect. In fact, more jobs were created during the month than experts had predicted and the unemployment rate fell to the lowest level in four years. Unfortunately, several weak points emerged just below the surface.

The business survey showed 146,000 jobs were created in November, considerably better than the median nonfarm payroll forecast for 85,000 jobs. However, the two prior month job gains were revised downward by a combined 49,000, with September payrolls now up 132,000 and October up 138,000. The conventional rule of thumb is that the economy needs to produce somewhere in the range of 150,000 jobs per month just to absorb new workers into the workforce. According to the U.S. Bureau of Labor Statistics, so far this year, job growth has averaged 151,000 per month. In 2011, monthly average payrolls increased by 153,000. The total number of out-of-work Americans held steady at 12 million, approximately 4 million higher than five years ago.

But despite the pedestrian rate of job creation, unemployment continues to fall. In November, the unemployment rate dropped from 7.9% to 7.7%, the lowest since December 2008. The household survey showed a net decline of 122,000 jobs during the month, but the number of Americans who reported looking for work fell by 350,000, so the combination actually ratcheted down the unemployment rate.

There are still a huge number of Americans who are working part-time for economic reasons. In other words, they would prefer a full-time job. These involuntary part-time workers were little changed at 8.2 million in November. There were another 2.5 million not counted in the official unemployment rate because they had not looked for work during the past 4 weeks, although they had searched at some point over the prior 12 months. The much broader U6 measure of unemployment, which counts all Americans who would accept a full-time position if one were offered, fell from 14.6% to 14.4%.

November job creation was concentrated in retail trade where 53,000 positions were created last month and 140,000 during the prior three months. The health care sector continued to produce jobs with another 20,000 created in November, and 286,000 for all of 2012. Leisure and hospitality added 23,000 for a total of 305,000 during the past year. Factory jobs were essentially flat, despite auto sales rising to their highest level in nearly four years. Construction was the big loser in November with 20,000 building jobs disappearing.

DOW futures were down before the release, but did an immediate reversal when the better headline numbers printed. The Fed is unlikely to alter their monetary policy stance as a result of the November jobs data. In fact, most expect the FOMC to announce additional Treasury purchases to begin next month.

Short-term yields are holding steady this morning near record lows under the assumption that the Fed will hold overnight rates at current levels for at least another 2½ years. Longer-term yields have drifted a bit higher in early trading in response to the slightly better economic data.

The labor market data is always important, but frankly, it will pale in comparison to the critical decisions made by Congress and the Administration over the next 30 days.

MARKET INDICATIONS AS OF 9:30 A.M. CENTRAL TIME

DOW	UP 30 to 13,104
NASDAQ	DOWN 11 to 2,979
S&P 500	UP 2 to 1,415
1-Yr T-bill	current yield 0.17%; opening yield 0.17%
2-Yr T-note	current yield 0.24%; opening yield 0.24%
5-Yr T-note	current yield 0.61%; opening yield 0.60%
10-Yr T-note	current yield 1.61%; opening yield 1.58%
30-Yr T-bond	current yield 2.80%; opening yield 2.77%

UPWARD Q3 GDP REVISION IS MISLEADING

Thursday, November 29, 2012

GDP REVISED HIGHER BUT ECONOMIC GROWTH LAGS
The growth rate of the U.S. economy is calculated and released four weeks after the end of every quarter. The annualized number is then subject to two revisions over the following two months. The initial third quarter 2012 GDP reading was +2.0%. The historical average growth rate in the U.S. is around +3.0%. The prior quarter had been a particularly sluggish +1.3%. This morning, the first revision to the third quarter pushed the initial +2.0% reading all the way up to +2.7%. On the surface, this was encouraging, but the reality was a different story.

The most critical GDP component is household purchases. According to the Bureau of Economic Analysis, consumption by individuals contributes roughly 70% to overall GDP. In this country, shoppers fuel economic growth. In the initial reading, household purchases rose by +2.0%. In the revision, it rose by only +1.4%. Making up much of the difference was the inventory component which was revised upward from -0.1% to +0.8%. When business inventories grow during a quarter, the accumulation adds to GDP. But if future sales can’t keep pace, businesses will not add as much to inventories in the future, which would then have a detrimental effect on future GDP.

So, this morning’s upward GDP revision makes a nice headline, but ironically suggests a drop in GDP in the coming months. Morgan Stanley analysts took one look at the number, and promptly revised their fourth quarter GDP estimate downward from +0.7% to +0.6%.

The equity markets opened strong this morning, with the DOW up 77 points in early trading. The GDP data seems to have curtailed gains. The initial enthusiasm seemed to be tied to expectations that Congress will find a palatable solution to the fiscal cliff problem. After Senate Majority Leader Harry Reid proclaimed on Tuesday that “little progress was being made,” (a statement that prompted a stock market sell-off), subsequent news has been more optimistic.

There has been quite a bit of data released in the past several days, although most is not only of the minor variety, but also distorted by Hurricane Sandy. A good example is new home sales, which fell by 0.3% in October. Although the Commerce Department had said Sandy was likely to have “little effect” on October’s numbers, home sales in the Northeast fell by a whopping 32.3% during the month.

U.S. home sales, however, seem to be poised for a mini-boom in the future. The Conference Board’s most recent survey indicates the largest percentage of respondents in the 48-year history of the confidence survey intend to purchase a home within the next six months. For those who emerged from the recession with a full-time job and a sterling credit rating intact, it’s a good time to borrow, as 30-year mortgage rates have reached a new record low of 3.31% according to the most recent Freddie Mac weekly rate survey.

Bonds are little changed this morning, and have traded within a very narrow range for the last two weeks.

MARKET INDICATIONS AS OF 10:25 A.M. CENTRAL TIME

DOW	UP 39 to 13,024
NASDAQ	UP 18 to 3,010
S&P 500	UP 9 to 1,416
1-Yr T-bill	current yield 0.17%; opening yield 0.17%
2-Yr T-note	current yield 0.26%; opening yield 0.26%
5-Yr T-note	current yield 0.64%; opening yield 0.64%
10-Yr T-note	current yield 1.63%; opening yield 1.63%
30-Yr T-bond	current yield 2.81%; opening yield 2.80%

CONFIDENCE SOARS IN FRONT OF THE CLIFF

Tuesday, November 27, 2012

ELEVATED CONFIDENCE DEFIES REASON

The Conference Board’s index of consumer confidence rose in November to the highest level in almost five years. The 73.7 reading was the highest since February 2008, and nearly triple the 25.3 low point experienced in February 2009. Although the present conditions index was virtually unchanged at 56.6, the future expectations index (six months from now) increased from 84 to 85.1. Clearly, Americans are optimistic that we’ll clear the latest hurdles.

The percentage of respondents currently believing jobs are plentiful increased from 10.4% to 11.2%, the most in four years. The percentage expecting an increase in the number of jobs over the next six months rose from 19.7% to 20.3%, the highest since February 2011.

And this is especially surprising –

Those planning to purchase a home within the next six months rose to 6.9%, the highest percentage of expected home buyers since the survey began back in 1964.

Interestingly, the November Conference Board survey supports the University of Michigan consumer sentiment index, which climbed to a five-year high in November.

In theory, consumers will spend more money when they are happy, so a boost in confidence bodes well for holiday sales. The National Retail Federation reported earlier this week that sales over the Thanksgiving weekend were up 13% from a year ago. Last year, sales were up 16% over the previous year after a few stores tested the waters by opening on Thanksgiving Day. The Wall Street Journal cautioned that a strong start doesn’t always translate into a strong finish, but initial indications suggest that “Cyber Monday” produced the biggest single day internet sales on record.

According to thehill.com, Senate Majority Leader Harry Reid introduced a bill this morning to extend the Transaction Account Guarantee (TAG) Program for another two years. This is the program, introduced in November 2008 during the financial crisis, that provides unlimited FDIC-insurance on non-interest bearing transaction account balances. It is unclear how much support exists for keeping this emergency measure in place now that the financial system is back on solid ground.

And according to yesterday’s Wall Street Journal, President Obama has tapped Treasury Secretary Tim Geithner to lead fiscal cliff negotiations. Geithner is expected to step down as Treasury Secretary after the negotiations are concluded.

The bond market hasn’t budged this morning. Stocks are down in early trading.

MARKET INDICATIONS AS OF 10:34 A.M. CENTRAL TIME

DOW	DOWN 37 to 12,930
NASDAQ	DOWN 4 to 2,973
S&P 500	DOWN 1 to 1,401
1-Yr T-bill	current yield 0.17%; opening yield 0.17%
2-Yr T-note	current yield 0.26%; opening yield 0.26%
5-Yr T-note	current yield 0.66%; opening yield 0.66%
10-Yr T-note	current yield 1.65%; opening yield 1.66%
30-Yr T-bond	current yield 2.80%; opening yield 2.80%

THE OCTOBER 2012 BLOOMBERG INTEREST RATE AND ECONOMIC SURVEYS

Wednesday, November 21, 2012

From November 9 through November 14, 2012, Bloomberg News surveyed 74 top economists for their most recent opinions on the U.S. economy and interest rates. The following are summaries of their responses:

The Economic Forecast

Unemployment Rate - The median forecast for Q4 2012 unemployment is 7.9%. The median forecast for the next six quarters are 7.9%, 7.8%, 7.7%, 7.6%, 7.5% and 7.4%.

The October employment report, released four days before the election, showed an improvement in the economy and perhaps some momentum going forward. Nonfarm payrolls, forecast to rise by 125K, increased 171K in October and were revised higher the previous two months by a net 84K.

In a sign of greater optimism, more people declared themselves actively looking for work. The labor force expanded by 578K last month and 996K the last two months combined, lifting the labor force participation rate to 63.8%. The increase in the labor force accounted for an uptick in the unemployment rate to 7.9%.

The number of people unemployed for six months or more (the long-term unemployed) rose 158K in October to 5.0 million, 40.6% of the unemployed. The concern among many economists is that long-term unemployment could evolve into a structural issue, rather than merely too few jobs for too many job seekers. The longer a person is out of work, the greater the likelihood their skills will erode, making it more difficult to land a job equivalent in pay and stature to the one they lost. The alternative is taking a part-time job to bridge the gap to their next full-time gig, as was the case in September when 582K more people took part-time work. Those taking part-time work for economic reasons fell by 269K in October, chipping away at the previous month’s huge influx.

Real GDP (annualized economic growth) - The median GDP growth forecast for Q3 2012 is +1.85%. The median forecast for the next six quarters are +1.7%, +1.7%, +2.2%, +2.5%, +2.7% and +2.7%.

Third quarter GDP grew at a 2.0% pace, 0.7% better than Q2 and surprisingly better than the 1.8% forecast by the Bloomberg survey. The largest contributor was federal government spending, which advanced 3.7% largely on defense expenditures, which grew by 13.0%. Personal consumption grew by a more modest 2.0% as consumers dipped into their savings for back to school items and larger durable goods purchases like autos. Individual consumers, typically less forward looking than businesses, continued with their normal routines and purchasing habits.

The largest drag on growth, and perhaps the most concerning component going forward, was in business investment. Non-residential investment fell by 1.3%, in large part due to weakness abroad, but also likely the result of companies preparing for the looming fiscal cliff. An article in the Wall Street Journal, Investment Falls Off a Cliff, states that “half of the nation's 40 biggest publicly traded corporate spenders have announced plans to curtail capital expenditures this year or next,” according to their review of those companies security filings and conference calls.

Some recently released economic data, namely employment, housing and lower gasoline prices, suggest an upward revision to Q3 GDP, perhaps to 3.0%. Nevertheless, all attention is on the Fiscal Cliff and its effects on the economy if a resolution isn’t reached by year-end. It’s nearly unanimous among economists the economy would descend toward recessionary territory should that happen. Leading up to that point, the reverse in consumer sentiment is already showing itself, as October Retail Sales fell 0.3% and the key retail control category (sales less autos, building materials and gasoline) fell 0.1%. Given the poor retail numbers and an uncertain future, Q4 GDP forecasts are quite bearish. Bank of America expects only 1.0% growth, while Morgan Stanley is even more negative, predicting only 0.6%.

Consumer Prices - The median annualized consumer inflation forecast for Q4 2012 is +2.0%. The median forecast for the next six quarters are +1.8%, +2.1%, +2.1%, +2.1%, 2.2% and 2.25%.

The Consumer Price Index (CPI) was lower in October, as energy costs decreased 0.2% during the month and gasoline prices fell 0.6%, bringing the national average for a gallon of gas to $3.58.

Year-over-year, CPI rose to 2.2% from 2.0% the month before. Core consumer prices, which exclude food and energy, edged up 0.2% in October and 2.0% on an annual basis.

The Interest Rate Forecast

Overnight Fed Funds - The MEDIAN fed funds forecast for Q2 2012 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%.

As we approach year-end, rates are heading lower as investors position themselves for an uncertain future. The new year will produce a number of pitfalls that may conspire to drive rates even lower, maybe dramatically lower. Among them: the end of FDIC insurance on non-interest bearing accts (~$1.6 trillion likely redirected to the short-end of the curve), the continuation of QE3 with the possibility of expanding it to include treasuries, continued insecurity and weakness in Europe, a shortage of supply from the Agencies as they continue to reduce their mortgage holdings, an ambiguous and arcane tax code in desperate need of an overhaul and, of course, the fiscal cliff.

Fed officials are prepared to maintain the current accommodative monetary policy and expressed as much at the last FOMC meeting. The minutes from the meeting revealed that “a number” of members backed additional asset purchases next year "in order to achieve a substantial improvement in the labor market." Operation Twist is due to expire on December 31^st, at which time it’s expected the Fed will commence outright purchases of Treasury securities, somewhere in the neighborhood of $45 billion per month, matching the current pace of purchases under Twist.

For public investors who, by law, policy and guidelines, are restricted to purchasing securities on the short-end of the curve, it may be in their best interest to limit cash holdings at this time, investing the cash in agency bullets, callables or even treasuries.

2-year Treasury-note - The average 2-year yield forecast for Q4 2012 is 0.28%. The average yield forecast for the next six quarters are 0.32%, 0.36%, 0.41%, 0.50%, 0.55% and 0.65%. The current 2-yr Treasury yield is 0.26%.

	Q4 2012	Q1 2013	Q2 2013	Q3 2013	Q4 2013	Q1 2014	Q2 2014
Current Survey (Nov 2012)	0.28%	0.32%	0.36%	0.41%	0.50%	0.55%	0.65%
Prior Survey (Oct 2012)	0.30%	0.35%	0.42%	0.49%	0.59%	0.71%	0.85%
One Year Prior (Nov 2011)	0.61%	0.76%	0.95%	N/A	N/A	N/A	N/A

10-year Treasury-note - The average 10-year yield forecast for Q4 2012 is 1.72%. The average forecast for the next six quarters are 1.82%, 1.95%, 2.10%, 2.27%, 2.43% and 2.59%. The current 10-year yield is 1.68%.

	Q4 2012	Q1 2013	Q2 2013	Q3 2013	Q4 2013	Q1 2014	Q2 2014
Current Survey (Nov 2012)	1.72%	1.82%	1.95%	2.10%	2.27%	2.43%	2.59%
Prior Survey (Oct 2012)	1.76%	1.88%	2.03%	2.18%	2.34%	2.47%	2.61%
One Year Prior (Nov 2011)	2.78%	2.92%	3.07%	N/A	N/A	N/A	N/A

30-year Treasury-bond - The average 30-year yield forecast for Q4 2012 is 2.86%. The average forecast for the next six quarters are 2.94%, 3.07%, 3.19%, 3.36%, 3.54% and 3.66%. The current 30-year yield is 2.82%.

	Q4 2012	Q1 2013	Q2 2013	Q3 2013	Q4 2013	Q1 2014	Q2 2014
Current Survey (Nov 2012)	2.86%	2.94%	3.07%	3.19%	3.36%	3.54%	3.66%
Prior Survey (Oct 2012)	2.89%	2.99%	3.15%	3.29%	3.45%	3.59%	3.72%
One Year Prior (Nov 2011)	3.79%	3.92%	4.06%	N/A	N/A	N/A	N/A

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

DOW	Up 18 to 12,806
NASDAQ	Unchanged at 2,916
S&P 500	Down 2 to 1,384
1-Yr T-bill	current yield 0.17%; opening yield 0.17%
2-Yr T-note	current yield 0.26%; opening yield 0.26%
5-Yr T-note	current yield 0.67%; opening yield 0.67%
10-Yr T-note	current yield 1.68%; opening yield 1.68%
30-Yr T-bond	current yield 2.82%; opening yield 2.83%

RETAIL SALES SLUMP AND THE CLIFF DRAWS CLOSER

November 14, 2012

SANDY DAMPENS OCTOBER SALES

Retail sales fell by 0.3% in the month of October, slightly worse than expected. This followed a 1.3% revised jump in September. If auto sales are excluded, sales were unchanged. If autos and gasoline are excluded, core sales fell by 0.3%. There are a number of key factors influencing the October data, with Hurricane Sandy throwing a huge wrench into the equation. In fact, as many pointed out, the data released over the next couple of months will be distorted enough to generally discard. Still, Morgan Stanley took a look at the sales report and lowered its projected Q4 consumption from +2.0% to +1.3%, and its Q4 GDP estimate from 0.8% to 0.4%. Although Morgan Stanley appears to be a bit more pessimistic than its peers, the anemic growth projection is just a notch above contraction …with a tougher period on the horizon.

PRODUCER INFLATION RETREATS

The Producer Price Index (PPI) fell by 0.2% during the month of October, well below the Bloomberg median forecast for a 0.2% increase. The October number was in sharp contrast to August and September when producer prices rose by 1.7% and 1.1% respectively. On a year-over-year basis, PPI is up 2.3%. Last year at this time, the YOY rate was 5.8% thanks to elevated energy prices. If food and energy prices are excluded, core PPI also fell 0.2%, the first decline in the core rate since November 2010. On a year-over-year basis, core PPI is rising at a 2.1% rate. Although Fed officials aren’t focused on producer prices when contemplating monetary policy, producer input costs help determine profit margins for U.S. companies.

FISCAL CLIFF UPDATES

The Wall Street Journal reported this morning that President Obama has announced a goal of $1.6 trillion in new tax revenues over the next 10 years. A spokesman for House Speaker John Boehner reported that the Speaker has not specified a revenue target of his own. He has said that he would be willing to accept new tax revenues, although not higher tax rates, if the Democrats were willing to accept structural changes to entitlement programs.

Treasury Secretary Tim Geithner said that simply closing loopholes and reducing deductions, as Boehner has suggested, would not created enough new revenues. Presumably, if all of the tax cuts on individuals making over $250k per year were allowed to expire, tax revenues would increase by an estimated $800 billion over 10 years. Thus, it’s hard to imagine how the middle class will be spared its own dose of pain, unless the U.S. economy roars back in the coming years.

The Journal also reported that President Obama did not specifically exclude entitlement cuts and speculates this omission might indicate a willingness to negotiate. Still, there are politicians on both sides of the aisle who have made election promises, from preserving the entitlement programs to keeping taxes low, and it’s awfully early to break promises.

An article in the Washington Post a week before the election suggested that actually going over the cliff might be the only way to break the stalemate. The article said that if individual tax rates automatically reverted back to previous levels, Congress would be voting to cut rather than increase taxes. As a result, Republicans would not technically be violating their no taxes pledge in compromising with the Democrats.

Although the stock markets have been taking a beating as a result of fiscal cliff fears, and probably a general sense of uncertainty, consumers are eerily optimistic. The (preliminary) University of Michigan Consumer Sentiment Index increased in November for the fourth straight month to 84.9, the highest level since July 2007. Apparently, consumers have appreciated lower gas prices and improved employment conditions.

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

DOW	DOWN 120 to 12,636
NASDAQ	DOWN 21 to 2,863
S&P 500	DOWN 9 to 1,362
1-Yr T-bill	current yield 0.17%; opening yield 0.17%
2-Yr T-note	current yield 0.25%; opening yield 0.25%
5-Yr T-note	current yield 0.62%; opening yield 0.62%
10-Yr T-note	current yield 1.58%; opening yield 1.60%
30-Yr T-bond	current yield 2.73%; opening yield 2.73%

A POSITIVE SURPRISE IN OCTOBER PAYROLLS

Friday, November 2, 2012

JOB GAINS TOP FORECASTS
U.S. businesses added 171k jobs to nonfarm payrolls during the month of October, well above the 125k median forecast, while August and September payrolls were revised higher by a combined 84k jobs. Company job growth has now averaged 173k per month since the beginning of July. In April, May and June, job creation had been sputtering along at a 67k pace. So far in 2012, the economy has added an average of 157k jobs, up slightly from the average of 153k during 2011, but still well below the level needed to absorb new workers into the labor force, and chip away at the huge number of unemployed and under-employed Americans.

Within the October business survey, factory employment rose by 13k, the first increase since July, while construction jobs increased by 17k, the most since January. Retail jobs rose 36k in October, while leisure and hospitality jobs increased by 28k and are up by 811k since the January 2010 recent low point. Unfortunately, these are traditionally lower paying jobs. The health care sector added 31k higher paying positions in October, and a total of 296k during the past 12 months. Government employment fell by 13k after three months of small increases. If the impact of government jobs are excluded, private sector payrolls rose by 184k.

The unemployment rate, calculated from the separate household survey, rose by 1/10^th to 7.9%, matching the median forecast. The slight increase in unemployment was a result of a 578k rise in the labor force. The fact that more people have recently entered the labor force reflects a recent increase in optimism and consumer confidence. The University of Michigan consumer sentiment index is at its highest point since before the recession began, while the Conference Board’s consumer confidence index reached its highest level since February 2008.

The total number of involuntary part-time workers fell by 369k to 8.3 million in October, cutting into the huge September increase in part-time employment. The number of “marginally attached” workers was little changed at 2.4 million. These Americans had not actively sought employment in the past 4 weeks, but had at some point during the past 12 months. They are not considered to be in the workforce. As conditions improve, presumably they’ll reenter the workforce. Of these 2.4 million, 813k are considered “discouraged workers” who believe there is no job available to them. This number is down by 154k since last year. The U6 measure of unemployment, which measures everyone who would accept a full time position if one were offered, fell slightly from 14.7% to 14.6%.

All-in-all, the October report is a positive surprise in front of the fiscal cliff. Most economists had anticipated that businesses would hunker down as the year closed, but a recent increase in consumer spending has sparked an increase in hiring despite all the uncertainty.

The better-than-expected labor report prompted an initial rally in the stock markets, but gains have since evaporated. Bonds sold off early, pushing Treasury yields slightly higher, but this too has largely reversed itself in the past hour.

The current Fed monetary policy stance should be unaffected by today’s report. Tuesday’s election results and the impending fiscal cliff will drive the financial markets for the next couple of months.

In other news from earlier in the week…

The Institute for Supply Management (ISM) manufacturing index increased from 51.5 to 51.7 in October, a bit better than the median forecast of 51.0. It was the second straight month above the 50 mark, indicating expansion in the factory sector. Within the survey, the production index rose from 52.3 to 54.2 and the new orders index from 52.3 to 54.2, while the employment index stepped back from 54.7 to 52.1.

According to Dow Jones News, JP Morgan amended the terms of two of their European Money Market Funds to address the future possibility of negative rates. Since the funds are prohibited from trading below par value, they created a new share class which would permit the fund to reduce the number of investor shares if yields turn negative, such that the fund manager is losing money.

Reuters reported that a new proposal is being considered in the U.S. in which investors who flee a money market fund during periods of high market stress would have to pay a withdrawal fee into the fund to compensate remaining participants.

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

DOW	DOWN 44 to 13,188
NASDAQ	DOWN 8 to 3,011
S&P 500	UP 1 to 1,423
1-Yr T-bill	current yield 0.17%; opening yield 0.17%
2-Yr T-note	current yield 0.28%; opening yield 0.28%
5-Yr T-note	current yield 0.73%; opening yield 0.73%
10-Yr T-note	current yield 1.73%; opening yield 1.72%
30-Yr T-bond	current yield 2.92%; opening yield 2.90%

THE OCTOBER 2012 BLOOMBERG INTEREST RATE AND ECONOMIC SURVEYS

Friday, October 26, 2012

From October 5 through October 10, 2012, Bloomberg News surveyed 55 top economists for their most recent opinions on the U.S. economy and interest rates. The following are summaries of their responses:

The Economic Forecast

Unemployment Rate - The median forecast for Q3 2012 unemployment is 8.2%. The median forecast for the next six quarters are 8.0%, 7.9%, 7.9%, 7.8%, 7.7% and 7.5%.

After the release of the September payrolls report, the financial media was filled with suspicion and accusations that the fix was in at the Labor Department’s Bureau of Labor Statistics, and some formerly well respected people made themselves look foolish with their “tweets” and public comments. To many, it was inconceivable that an unemployment rate, stuck north of 8% for 43 consecutive months, could drop so precipitously one month ahead of the presidential election. There had to be collusion between the White House and the career personnel at BLS. As it turns out, the explanation could be found within the details of the report.

Despite a relatively benign 114K jobs reportedly created in September, the unemployment rate still managed to fall by three-tenths of a percent to 7.8% from 8.1%. At first glance, in the midst of a heated presidential campaign, it may be understandable for someone to react suspiciously to such a dramatic and unexpected move, but at the end of the day, there are logical explanations. Of the 114K jobs created, nearly 53% (>60K) were from the “eat, drink and get sick” sector (bars and restaurants plus health care), as economist John Mauldin dubbed it. Another 10K government jobs were created, mostly in education.

Many of the skeptics apparently forgot the information for the unemployment rate and jobs created are derived from two unrelated surveys. The Establishment Survey polls 400K companies, asking them how many people they have employed, and the Household Survey which asks 60K households how many people live in the home and how many of those people work, full-time or part-time. The Household survey, after looking beyond just the unemployment rate, was not indicative of a labor market recovery.

From the Household survey, a staggering 873K jobs were created, but of those, two-thirds (582K) were people settling for a part-time job because a full-time one was unavailable. The U-6 measure of unemployment (total unemployed, plus all marginally attached workers, plus part-time workers for economic reasons) held steady at 14.7%, so it would appear the decline in the headline unemployment number to 7.8% was almost entirely due to the increase in people taking part-time jobs.

The next report is to be released November 2^nd, four days ahead of election day. Current Bloomberg forecasts are calling for an addition of 120K jobs created (Establishment survey) and an unemployment of 7.9% (Household survey).

Real GDP (annualized economic growth) - The median GDP growth forecast for Q3 2012 is +1.8%. The median forecast for the next six quarters are +1.9%, +1.8%, +2.3%, +2.5%, +2.7% and +2.9%.

Retail sales jumped 1.1% in September and were revised higher over the summer months from 0.9% to 1.2%. Electronics and appliance stores stood out in September’s report, advancing 4.5% during the month. The growth in the electronics sector was almost certainly driven by demand for Apple’s iPhone 5, introduced in September. Apple sold more than five million of the new phones in the first three days they were available.

Another contributor, unfortunately, to the higher consumer spending again were higher gasoline prices, up another 2.5% for the month, averaging $3.86 per gallon nationwide according to Bloomberg. Some locations in California reached $5.00 and above when a refinery lost power and was forced offline.

Durable goods orders rose 9.9% in September after falling 13.1% the month before. After stripping away the volatile transportation component, which was bolstered by a 2,640% increase in aircraft orders from August to September, durable goods were higher by only 2.0%. “Don’t let the headline fool you: the September durables report was a big disappointment,” economist Michael Feroli of JPMorgan Chase Bank said just as he and his peers at Wells Fargo reduced their Q3 GDP forecast from 1.8% to 1.7%. Bank of America, based on the same numbers, actually raised their forecast from 1.7% to 1.8%.

Turns out, they all missed. Q3 GDP, announced Friday, grew 2.0% quarter-over-quarter. Tracking with the retail sales number, the report showed consumer spending expanded 2.0% between July and September, compared to just 1.5% in Q2. Shoppers relied on credit and dipped into their savings apparently to make purchases, as the personal savings rate fell to 3.7% from 4.0%. Housing investment lurched higher by a whopping 14.4%. Looking beyond residential investment though, business investment continued to decline as an uncertain road ahead creates a very cautious and reluctant business environment; this quarter business investment was down to 1.3%, the lowest rate since 2009.

Consumer Prices - The median annualized consumer inflation forecast for Q3 2012 is +1.7%. The median forecast for the next six quarters are +1.9%, +1.8%, +2.0%, +2.1%, +2.1% and +2.2%.

For the second consecutive month, the Consumer Price Index (CPI) rose 0.6%. And like August, September prices were higher primarily on higher energy costs. In particular, the gasoline index rose 7% in September after a 9% gain in August. The core CPI rose a much more modest 0.1%, also the same increase seen in August. Year-over-year, both the headline CPI and the core rose 2.0%.

The Federal Reserve recently acknowledged inflation had “picked up somewhat, reflecting higher energy prices," and that “longer-term inflation expectations have remained stable.”

The Interest Rate Forecast

Overnight Fed Funds - The MEDIAN fed funds forecast for Q3 2012 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%.

Given the stable inflation data, it’s unlikely the Fed will feel pressure to remove their accommodative fiscal policies anytime soon. In fact, after a FOMC meeting last month that produced QE3 and extended rate guidance into 2015, October’s meeting of the Committee was relatively uneventful, as policy makers maintained their cautious outlook. For every mention of positive movement in the economy, they were quick to point out weakness in another area; “Household spending has advanced a bit more quickly, but growth in business fixed investment has slowed,” representative of the benign ex-trans durable goods orders and near flat business investment found in the Q3 GDP number.

One comment was unchanged from last month’s statement: “If the outlook for the labor market does not improve substantially, the Committee will continue its purchases of agency mortgage-backed securities, undertake additional asset purchases, and employ its other policy tools as appropriate until such improvement is achieved in a context of price stability.” Currently, the Fed, through “Operation Twist”, is a seller of short-term maturities and a buyer of longer-term ones. If the current MBS open-market purchases (currently $40 billion per month) proves ineffective at sparking more growth and thus labor market improvement, then the Fed, with that statement, is saying they are prepared to add direct purchases of Treasuries as well. It would be simple enough to do by becoming buyers rather than sellers on the short-end of the Twist operation.

2-year Treasury-note - The average 2-year yield forecast for Q4 2012 is 0.30%. The average yield forecast for the next six quarters are 0.35%, 0.42%, 0.49%, 0.59%, 0.71% and 0.85%. The current 2-yr Treasury yield is 0.29%.

	Q4 2012	Q1 2013	Q2 2013	Q3 2013	Q4 2013	Q1 2014	Q2 2014
Current Survey (Oct 2012)	0.30%	0.35%	0.42%	0.49%	0.59%	0.71%	0.85%
Prior Survey (Sept 2012)	0.34%	0.40%	0.50%	0.63%	0.76%	0.96%	N/A
One Year Prior (Oct 2011)	0.67%	0.83%	1.06%	N/A	N/A	N/A	N/A

10-year Treasury-note - The average 10-year yield forecast for Q4 2012 is 1.76%. The average forecast for the next six quarters are 1.88%, 2.03%, 2.18%, 2.34%, 2.47% and 2.61%. The current 10-year yield is 1.75%.

	Q4 2012	Q1 2013	Q2 2013	Q3 2013	Q4 2013	Q1 2014	Q2 2014
Current Survey (Oct 2012)	1.76%	1.88%	2.03%	2.18%	2.34%	2.47%	2.61%
Prior Survey (Aug 2012)	1.65%	1.79%	1.93%	2.11%	2.29%	2.47%	2.75%
One Year Prior (Oct 2011)	2.89%	3.07%	3.29%	N/A	N/A	N/A	N/A

30-year Treasury-bond - The average 30-year yield forecast for Q4 2012 is 2.89%. The average forecast for the next six quarters are 2.99%, 3.15%, 3.29%, 3.45%, 3.59% and 3.72%. The current 30-year yield is 2.92%.

	Q4 2012	Q1 2013	Q2 2013	Q3 2013	Q4 2013	Q1 2014	Q2 2014
Current Survey (Oct 2012)	2.89%	2.99%	3.15%	3.29%	3.45%	3.59%	3.72%
Prior Survey (Sept 2012)	2.74%	2.83%	3.01%	3.19%	3.36%	3.52%	3.79%
One Year Prior (Oct 2011)	3.94%	4.15%	4.33%	N/A	N/A	N/A	N/A

MARKET INDICATIONS AS OF 1:50 P.M. CENTRAL TIME

DOW	Up 14 to 13,117
NASDAQ	Up 2.5 to 2,988
S&P 500	Down 1.25 to 1,407
1-Yr T-bill	current yield 0.17%; opening yield 0.17%
2-Yr T-note	current yield 0.29%; opening yield 0.30%
5-Yr T-note	current yield 0.76%; opening yield 0.78%
10-Yr T-note	current yield 1.75%; opening yield 1.79%
30-Yr T-bond	current yield 2.92%; opening yield 2.96%

FED ON CRUISE CONTROL; HOME SALES

Wednesday, October 24, 2012

FOMC Steady as She Goes
In perhaps the least anticipated FOMC meeting of the last few years the Fed did what everyone was expecting, nothing. Following the announcement of QE3 at the September FOMC meeting and in light of the upcoming presidential elections, analysts were not expecting any major news from this meeting. The Fed was happy to oblige and did not announce any new programs nor make any substantive changes to its statement. The Fed will continue with its so called Operation Twist, which is due to conclude at year-end; will continue its QE3 program of buying $40 billion of mortgage-backed securities per month; and still expects to hold the fed funds rate at exceptionally low levels until mid-2015.

Perhaps the most important sentence in the FOMC statement, which was also included in the September statement, highlights the Fed’s pursuit of better employment conditions: “If the outlook for the labor market does not improve substantially, the Committee will continue its purchases of agency mortgage-backed securities, undertake additional asset purchases, and employ its other policy tools as appropriate until such improvement is achieved in a context of price stability.” This suggests the Fed is ready to do even more if the job market doesn’t improve. In fact, a recent Bloomberg survey of 58 economists revealed that 76% of them expect the Fed to begin outright purchases of Treasury securities following the expiration of Operation Twist at the end of December.

NEW HOME SALES HIGHEST IN MORE THAN TWO YEARS
New home sales expanded by 5.7% in September, to an annual pace of 389,000, the most since April 2010. Prices are improving as well, with the median price of a new home climbing 11.7% year-over-year to $242,400. Inventories remain very low as the number of new homes for sale was just 145,000, near record lows and representing just 4.5 months of inventory at the current sales pace. This is contributing to large gains in new construction, as we saw in last week’s report on housing starts, which climbed to the fastest pace since July 2008 at 872,000.

Existing home sales for September, released last Friday, matched expectations, falling 1.7% to a 4.75 million unit annual pace. Although down slightly from August, that was still the second highest rate of the last two years. The good news tucked in the report was the drop in inventories, which fell to a 5.9 month supply at the current sales pace, a 78-month low. The bottom line is that the overall trend in housing seems to be positive and the Fed’s plan to keep a tight lid on long-term interest rates should help sustain that momentum.

Financial market reactions to today’s FOMC have been fairly muted as the announcement did not deviate from expectations. Stock markets have had a rough couple of weeks as corporate earnings and forward guidance have been disappointing. Both the Dow and S&P 500 are down again today and headed for the lowest close in seven weeks. Bond yields are mostly unchanged.

MARKET INDICATIONS AS OF 2:50 P.M. CENTRAL TIME

DOW	Down 32 to 13,070
NASDAQ	Down 10 to 2,980
S&P 500	Down 4 to 1,409
1-Yr T-bill	current yield 0.18%; opening yield 0.18%
2-Yr T-note	current yield 0.29%; opening yield 0.29%
5-Yr T-note	current yield 0.75%; opening yield 0.76%
10-Yr T-note	current yield 1.78%; opening yield 1.76%
30-Yr T-bond	current yield 2.94%; opening yield 2.90%

SEPTEMBER RETAIL SALES SHOW UNEXPECTED STRENGTH

October 15, 2012

SALES SOLID IN Q3

This morning, retail sales surged by 1.1% in September, following a revised 1.2% August increase. These are big month-over-month gains. In fact, the average monthly increase of 1% during the third quarter matched an eight-year high. This is particularly encouraging in light of the fact that the monthly retail sales numbers were all negative in the previous quarter. If volatile auto sales are excluded, September sales were still up 1.1% for the month. Apparently, the iPhone 5 played a significant role in the better-than-expected report. Sales at electronics and appliance stores increased by 4.5% in September, after averaging -0.4% over the prior six months.

The level of spending has been a surprise, but so has recent confidence. On Friday, the University of Michigan consumer sentiment index rose from 78.3 to 83.1, topping all Bloomberg economist forecasts, and reaching the highest level since September 2007, several months before the recession began. By comparison, the index averaged 64.2 during the past recession. The Conference Board’s measure as well as both ISM surveys suggest that optimism is increasing.

There’s little doubt the “fiscal cliff” will present challenges to economic growth going forward, but few expected we’d build any momentum going into the final quarter of the year.

Bonds are unchanged in early trading. Equities are heading lower after a relatively strong opening, and should sink or swim based on earnings reports rather than economic data for the next couple weeks.

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

DOW	UP 16 to 13,345
NASDAQ	DOWN 3 to 3,040
S&P 500	UP 2 to 1,424
1-Yr T-bill	current yield 0.17%; opening yield 0.17%
2-Yr T-note	current yield 0.26%; opening yield 0.26%
5-Yr T-note	current yield 0.66%; opening yield 0.66%
10-Yr T-note	current yield 1.65%; opening yield 1.66%
30-Yr T-bond	current yield 2.84%; opening yield 2.83%

UNEMPLOYMENT RATE DROPS BELOW 8%, BUT...

Friday, October 5, 2012

DESPERATE AMERICANS ACCEPT PART-TIME WORK

The September labor report was a shocker, at least at first glance as the unemployment rate unexpectedly fell from 8.1% to 7.8%, the lowest since January 2009. The household survey, which is used to calculate unemployment, showed an increase of 873,000 jobs, the biggest monthly gain in almost 30 years. Unfortunately, 582,000 of these new jobs were less desirable part-time positions.

The total number of officially unemployed Americans declined by 456,000 in September, but this number only includes the group of Americans who have been actively seeking work in the past four weeks. The number of involuntary part-time workers rose from 8 million to 8.6 million during the month as the recently hired part-time group was added to the tally. Another 2.5 million Americans are considered “marginally attached,” meaning that they had not actively looked for work in the past four weeks, but had at some point during the past year, and are currently considered available for work. The broader U6 measure of unemployment, which includes all Americans who would accept a full-time position if one were suddenly made available, held steady at 14.7%.

Nonfarm payrolls, calculated from the business survey data, rose by 114,000 in September, generally meeting expectations. Prior month revisions were a nice surprise as July payrolls were revised higher by 40,000 to 181,000 and August by 46,000 to 142,000. There seems to be some momentum from quarter to quarter as 437k total jobs were added to payrolls in the third quarter, following a particularly disappointing 190k increase in the second.

September job gains were concentrated in private healthcare (+44k), transportation and warehousing (+17k), government (10k), retail (+9k) credit intermediation (+6k), construction (+5k) and real estate (+7k). Job losses were found in manufacturing (-16k) and computer and electronic products (-6k).

Most of the underlying numbers showed marginal improvement. Average hourly earnings rose by 7 cents to $23.58, and have risen 1.8% over the past year. Both the average workweek and manufacturing overtime edged higher by 0.1 hour, while factory overtime held steady at 3.2 hours.

On the whole, the September report was better than expected. It just wasn’t as good as the 7.8% unemployment rate suggests, and is unlikely to alter the Fed’s stated rate outlook.

The equity markets are pleased, and have rallied in early trading, while bond prices have sold off, pushing yields slightly higher.

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

DOW	UP 84 to 13,659
NASDAQ	UP 20 to 3,169
S&P 500	UP 7 to 1,463
1-Yr T-bill	current yield 0.17%; opening yield 0.16%
2-Yr T-note	current yield 0.25%; opening yield 0.24%
5-Yr T-note	current yield 0.66%; opening yield 0.67%
10-Yr T-note	current yield 1.72%; opening yield 1.67%
30-Yr T-bond	current yield 2.95%; opening yield 2.89%

EUROPEAN UNREST TROUBLES FINANCIAL MARKETS

Friday, September 28, 2012

SPAIN TAKES CENTER STAGE AS RIOTS RAGE

European stock markets have been rocked this week by civil unrest, renewed uncertainty and a realization that the latest rescue plan may not do the trick. As a condition of the European Central Bank (ECB)’s pledge to purchase the short-term debt of financially crippled Euro member nations, Spain was forced to announce yet another round of unpopular austerity measures. Spain is already in the midst of a severe recession and is struggling with 25% general unemployment and a youth jobless rate above 50%. The latest budget plan threatens to deepen the recession and worsen unemployment with another 9% cut in government spending and €5 billion in new taxes. Earlier this week, thousands of angry protesters responded by rioting in Madrid, forcing police to barricade the Spanish Parliament.

And anti-austerity riots weren’t restricted to Spain as 60,000 Greeks also took to the streets this week, hurling rocks and gasoline bombs in the largest public protest in Greece in six months. There is, however, relative calm in France even after the unveiling of its latest government budget which includes significant tax increases (primarily on higher income earners) as well as deep spending cuts. Like most of Europe, France is mired in recession, as French GDP has now lingered at zero for the third quarter in a row. Global recession has a negative effect on U.S. exports, and creates a higher hurdle for U.S. economic recovery. There is also a tendency for money to exit overseas markets during troubled times for the relative safety of the U.S. government bond market. This “flight-to-quality” drives fixed income yields lower.

With the exception of a Thursday rally, U.S. stock markets have dropped all week. Much of the decline seems to be in direct response to trouble in Spain. However, Philadelphia Fed President Charles Plosser made a contribution to the slide as well. Whereas Bernanke’s announcement of an additional round of quantitative easing earlier this month boosted stock prices, Plosser’s contention that QE3 would not be an effective tool in combating unemployment and boosting economic growth, effectively reversed the prior gains. Plosser also suggested the Fed could lose credibility with its latest easing move. Unhappy equity market participants now have reason to agree.

A MIXED BAG OF ECONOMIC NEWS SUGGESTS A LONG WAIT FOR FED TIGHTENING

U.S. economic news was largely mixed this week. Most of the important news was released yesterday. The final revision to second quarter GDP took an already feeble 1.7% annualized growth rate down to 1.3%. Much of the downward revision resulted from lower farm inventories due to nationwide drought conditions. The 0.2% net reduction in inventories will eventually reverse itself and show up as a positive in an upcoming quarter, but the Q2 growth rate is plenty discouraging given the amount of stimulus present in the system.

In other news on the bleak side of the ledger, an 84% plunge in the volatile aircraft orders component caused a 13.2% drop in August durable goods orders, much worse than the 5% expected decrease. It was the biggest monthly decline since a record 13.9% drop in January 2009, perhaps the worse month of the entire recession. If transportation orders are excluded from the August calculation, big ticket orders still fell by 1.6%. Many factory sector measures have been slowing in recent months. Add durable goods orders to the stack.

Fortunately, some positive news was found in housing and employment. Initial claims dropped to a two-month low for the week ending September 22, as fewer Americans filed for first-time unemployment benefits. This suggests the labor market could strengthen a bit in the coming months. And, new home sales rose to a two-year high in August. With the increase in buyer demand, and record low inventories of new homes, prices jumped. The median price for a new home rose 11.2% in August to $256,900, the largest single month increase in history and 17% above the same period a year ago. And finally, Freddie Mac announced that the average 30-year fixed rate mortgage has fallen to 3.40%, yet another record low.

Bond yields have declined across the curve all week, as the global flight-to-quality reasserts itself, and investors acknowledge (yet again) that the U.S. economy is far too weak to weather Fed tightening in the foreseeable future.

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

DOW	DOWN 43 to 13,443
NASDAQ	DOWN 12 to 3,125
S&P 500	DOWN 8 to 1,433
1-Yr T-bill	current yield 0.16%; opening yield 0.16%
2-Yr T-note	current yield 0.23%; opening yield 0.25%
5-Yr T-note	current yield 0.63%; opening yield 0.65%
10-Yr T-note	current yield 1.64%; opening yield 1.66%
30-Yr T-bond	current yield 2.83%; opening yield 2.84%

MORE GOOD ...AND SOMEWHAT PUZZLING NEWS

Tuesday, Sept 25, 2012

AMERICANS GROW MORE CONFIDENT

This morning’s data releases are second tier, but the numbers were surprisingly strong, so they’re worth mentioning.

…Maybe the economy isn’t quite ready to fall off the cliff.

The Conference Board’s consumer confidence index unexpectedly jumped 9 points in September to 70.3, the highest level in seven months and well above the Bloomberg median forecast of 63.1. The present situation index increased by 3.7 points to 50.2, the highest since April, while the future expectations index surged by a whopping 12.6 points to 83.7. Interestingly, the present situation index was bolstered by improvement in perceived employment conditions. Most employment measures have been disappointing in recent months, so this morning’s data has raised some eyebrows. Recall last week, the September University of Michigan confidence index jumped 5 points to 79.2, the second highest survey reading since before the recession began.

This is a consumer-driven economy. Optimism fuels growth.

HOUSING PRICES REBOUND FROM COAST TO COAST

The S&P/Case-Shiller index of home values rose by 0.44% during the month of July, and 1.20% on a year-over-year basis, the biggest annual increase since August 2010. Mizuho Securities reported that all 20 cities recorded positive changes for the third consecutive month, while Bloomberg News reported that 16 of the 20 cities in the index reported year-over-year gains, with Phoenix posting a 17% gain.

The housing news has shown improvement for quite some time. It’s cheaper to buy than rent these days, affordability is still near record highs and mortgage rates are back to record lows (3.49% 30-year fixed).

Stocks are up in early trading and bonds are relatively flat on the day. Mortgage apps and new home sales will be released tomorrow.

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

DOW	UP 53 to 13,611
NASDAQ	UP 15 to 3,175
S&P 500	UP 5 to 1,457
1-Yr T-bill	current yield 0.17%; opening yield 0.17%
2-Yr T-note	current yield 0.27%; opening yield 0.26%
5-Yr T-note	current yield 0.68%; opening yield 0.65%
10-Yr T-note	current yield 1.73%; opening yield 1.71%
30-Yr T-bond	current yield 2.91%; opening yield 2.90%

SEPTEMBER 2012 BLOOMBERG INTEREST RATE AND ECONOMIC SURVEYS

Friday, September 21, 2012

From September 7 through September 12, 2012, Bloomberg News surveyed 52 top economists for their most recent opinions on the U.S. economy and interest rates. The following are summaries of their responses:

The Economic Forecast

Unemployment Rate - The median forecast for Q3 2012 unemployment is 8.2%. The median forecast for the next six quarters are 8.1%, 8.1%, 8.0%, 7.9%, 7.8% and 7.6%.

The September 6^th release of ADP’s National Employment Report, indicating an increase of 201K jobs from July to August, preceded the Labor Department’s release by one day, and, despite a history of not tracking well, lifted expectations for a breakout government number the next day. Unfortunately, those high hopes were dashed when the Labor Department reported only 96K new jobs were added to company payrolls in August, significantly below economists’ projections of an already tepid 130K gain. The previous two months were revised lower by a combined 41K jobs, June from +64K to +45K and July from +163K to +141K.

The unemployment rate dropped to 8.1% from 8.3%, but the decline was due in large part to people leaving the labor force rather than being hired to new positions. The labor force participation rate, the percentage of Americans who either have a job or are looking for one, fell to 63.5 percent, the lowest rate since May 1979 as 368k gave up looking for a job altogether.

The number of Americans considered long-term unemployed fell for the third consecutive month to ~5.0 million, or 40% of total unemployed. Those working part-time jobs for economic reasons moved slightly lower to 8.0 million. With fewer people in the labor force, the U-6 measure of unemployment (total unemployed, plus all marginally attached workers, plus part-time workers for economic reasons) also fell to 14.7% from 15.0%.

Real GDP (annualized economic growth) - The median GDP growth forecast for Q3 2012 is +1.8%. The median forecast for the next six quarters are +2.0%, +1.9%, +2.3%, +2.5%, +2.7% and +2.7%.

Retail sales for August were sharply higher by 0.9% at the headline level, but the internal components were actually quite weak. With gasoline sales included in the headline figure, it stands to reason the number would jump after the national average cost for a gallon of gasoline rose 7.5% in August to $3.84. The increase in pump prices sent gasoline station sales higher by 5.5%. This contributed to a large distortion between the headline retail sales figure and the more modest +0.1% recorded after gas station and new vehicle sales were stripped out. And despite the back to school shoppers, sales at general merchandise (-0.3%) and clothing stores (-0.1%) were unseasonably weaker too.

Electronics and appliance stores were down 1.4%, but more than TWO MILLION pre-orders in 24 hours for the new iPhone 5 should help buoy retail sales in September’s report. In fact, J.P. Morgan chief economist Michael Feroli provided a research paper suggesting iPhone 5 sales could “boost annualized GDP growth by $3.2 billion, or $12.8 billion at an annualized rate,” supporting annualized GDP, he expects, by a quarter to a half percent.

Not accounting for the “iPhone affect,” several economist have lowered their estimates for Q3 GDP based on the lackluster August retail sales and downward revisions to June and July data (0.1 percentage points in each month). Both Morgan Stanley and Bank of America/Merrill Lynch moved their Q3 GDP estimates lower by 0.4 percentage points; Morgan Stanley to +1.5% and B of A to 1.1%.

Consumer Prices - The median annualized consumer inflation forecast for Q3 2012 is +1.6%. The median forecast for the next six quarters are +1.9%, +1.7%, +2.0%, +2.1%, +2.1% and +2.3%.

The Consumer Price Index (CPI) rose 0.6% in August, again almost entirely on higher energy prices. The core CPI rose a much more modest 0.1%. Year-over-year, headline CPI rose 1.7%, while the core rate was up 1.9% for the year.

Food and energy prices are expected to put upward pressure on headline inflation, as Middle East turmoil will drive oil prices higher and the effects of this summer’s drought are finally felt at the consumer level. Even still, higher prices at the pump and at the supermarket are already crimping consumer’s ability to spend on discretionary items (as evidenced by the retail sales report), except the iPhone 5 of course.

The Interest Rate Forecast

The Federal Reserve’s Federal Open Market Committee (FOMC) met last week in what was the most highly anticipated meeting of the year thus far. In light of the continued weakness across many facets of the economy, especially the labor market, they opted “to keep the target range for the federal funds rate at 0 to 1/4 percent,” and in fact, “anticipates that exceptionally low levels for the federal funds rate are likely to be warranted at least through mid-2015.” In essence, they extended their forward guidance on rates an additional six months, as prior statements projected rates to remain near zero “at least through late 2014.”

Additionally, and perhaps most notably, the FOMC committed the Fed to begin immediate purchases of mortgage backed securities, QE3, at a pace of $40 billion per month. They did not define an end-date for the program, which has prompted some to coin this latest easing program QE∞. Continuing its current policy of reinvesting principal payments from its holdings of agency debt and MBS, and adding in the new QE3 purchases, the Fed will be buying roughly $85 billion per month through the end of the year.

With that backdrop, Bank of America/Merrill Lynch believes the Fed will maintain a super dovish stance until such time as the labor market improves, but B of A doesn’t foresee that scenario for “at least 1.5-2 years.” They went on to say, “Assuming that the current monthly pace of buying continues for a two year period, we are looking at $2 trillion of securities buying…”

2-year Treasury-note - The average 2-year yield forecast for Q3 2012 is 0.27%. The average yield forecast for the next six quarters are 0.34%, 0.40%, 0.50%, 0.63%, 0.76% and 0.96%. The current 2-yr Treasury yield is 0.26%.

	Q3 2012	Q4 2012	Q1 2013	Q2 2013	Q3 2013	Q4 2013	Q1 2014
Current Survey (Sept 2012)	0.27%	0.34%	0.40%	0.50%	0.63%	0.76%	0.96%
Prior Survey (Aug 2012)	0.28%	0.31%	0.39%	0.48%	0.61%	0.74%	0.99%
One Year Prior (Sept 2011)	0.67%	0.82%	1.03%	N/A	N/A	N/A	N/A

10-year Treasury-note - The average 10-year yield forecast for Q3 2012 is 1.65%. The average forecast for the next six quarters are 1.79%, 1.93%, 2.11%, 2.29%, 2.47% and 2.75%. The current 10-year yield is 1.76%.

	Q3 2012	Q4 2012	Q1 2013	Q2 2013	Q3 2013	Q4 2013	Q1 2014
Current Survey (Sept 2012)	1.65%	1.79%	1.93%	2.11%	2.29%	2.47%	2.75%
Prior Survey (Aug 2012)	1.63%	1.75%	1.93%	2.10%	2.29%	2.46%	2.75%
One Year Prior (Sept 2011)	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 2012 is 2.74%. The average forecast for the next six quarters are 2.83%, 3.01%, 3.19%, 3.36%, 3.52% and 3.79%. The current 30-year yield is 2.95%.

	Q3 2012	Q4 2012	Q1 2013	Q2 2013	Q3 2013	Q4 2013	Q1 2014
Current Survey (Sept 2012)	2.74%	2.83%	3.01%	3.19%	3.36%	3.52%	3.79%
Prior Survey (Aug 2012)	2.70%	2.83%	3.00%	3.15%	3.33%	3.51%	3.76%
One Year Prior (Sept 2011)	4.16%	4.35%	4.61%	N/A	N/A	N/A	N/A

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

DOW	Up 13 to 13,610
NASDAQ	Up 7 to 3,183
S&P 500	Up 2 to 1,463
1-Yr T-bill	current yield 0.17%; opening yield 0.18%
2-Yr T-note	current yield 0.26%; opening yield 0.26%
5-Yr T-note	current yield 0.67%; opening yield 0.69%
10-Yr T-note	current yield 1.76%; opening yield 1.77%
30-Yr T-bond	current yield 2.95%; opening yield 2.94%

HOUSING MARKET IMPROVEMENT CONTINUES

Friday, Sept 21, 2012

HOME PRICES RISE ALONG WITH OUTLOOK AND SALES

Quite a bit of positive housing news has recently been released. On a piece-by-piece basis, it doesn’t amount to much, but as a whole, it paints a picture of a steadily improving sector in an otherwise anemic recovery.

On Tuesday, the National Association of Home Builders (NAHB) Housing Market Index for September rose from 37 to 40, the highest level in six years. Three-and-a-half years ago, in January 2009, this particular confidence measure had fallen to a record low of 8. On Wednesday, August housing starts rose by 2.3% to an annual rate of 750k units. Despite the fact that July starts had been revised lower from 746k to 733k, the pace of August starts was still the second highest of the recovery, and 57% above the 2009 low point. The following day, existing home sales (which now make up about 93% of all home sales) rose by 7.8% in August, the biggest jump in a year, to an annualized 4.82 million unit pace. This was 9.3% above a year ago, and the highest level since May 2010. According to the National Association of Realtors (NAR), 2012 sales are on track to reach a 5-year high.

In other housing-related news, the national median price for an existing home rose in August to $187,400, up 9.5% from last year. It was the sixth straight month of year-over-year increases. The last time this happened was in the pre-recession six-month period from December 2005 to May 2006.

Affordability is still very high, although down from the peak earlier this year. According to the NAR, “an index number above 100 signifies that a family earning the median income has more than enough income to qualify for a mortgage loan on a median-priced home, assuming a 20 percent down payment.” The affordability index is currently at 180 and mortgage rates (for those able to qualify) are again at record lows.

Freddie Mac reported that the most recent weekly 30-year average mortgage rate had just dropped back to its historical low of 3.49%. And although renting has become increasingly popular in recent years, Trulia, a web-based national real estate listing company, reported last week that buying a home is now 45% cheaper than renting. Obviously, affordability is just one factor in the home buying process, and significant inventory overhang still exists (especially when the “shadow inventory” on bank balance sheets is considered) but the beginnings of a housing recovery appear to be in place.

According to Kiplinger.com, “Investment in new and existing homes usually drives recoveries from deep recessions, and the absence of such an investment surge helps explain why this recovery has been slower than any since the 1930’s.” Kiplinger also agrees with most economists that new home construction is likely to add to economic growth for the first time since 2005. The August new home sales data is scheduled for release on Tuesday. The median forecast is for sales to increase to a 2½ year high.

Non-residential construction has already been boosting GDP. According to BOA/Merrill Lynch, nonresidential construction spending has increased 28% from its trough in March 2011, and added 0.4 percentage points to quarterly GDP over the past five quarters.

MARKET INDICATIONS AS OF 2:38 P.M. CENTRAL TIME

DOW	UP 2 to 13,599
NASDAQ	UP 6 to 3,182
S&P 500	UP 2 to 1,455
1-Yr T-bill	current yield 0.17%; opening yield 0.17%
2-Yr T-note	current yield 0.26%; opening yield 0.26%
5-Yr T-note	current yield 0.67%; opening yield 0.68%
10-Yr T-note	current yield 1.75%; opening yield 1.77%
30-Yr T-bond	current yield 2.94%; opening yield 2.94%

HEADLINE MASKS WEAK UNDERLYING RETAIL SALES REPORT

Friday, September 14, 2012

ENERGY PRICES DRIVE DATA IN AUGUST

The price of West Texas Intermediate (WTI) crude oil has increased more than 26% since late June to top $99 per barrel this morning, while the Energy Department reported the average price for a gallon of unleaded gasoline reached $3.85 for the week ending September 10^th. High energy prices have a tendency to distort certain economic data, since these increases are generally viewed as temporary and not indicative of underlying inflationary trends.

This morning, the Commerce Department released its retail sales report for August and the headline number appeared quit solid with a month-over-month advance of 0.9%. This topped the median Bloomberg forecast of 0.8%, as well as the July increase, which was revised downward from 0.8% to 0.6%. On one hand, these two third quarter numbers were much better than the second quarter spending bust that produced three straight months of declining retail sales. But on the other hand, the majority of the August sales increase resulted simply from a 5.5% increase in gasoline station sales which in turn resulted from the jump in gas prices. If the gasoline component is removed, sales rose by just 0.3%, and if auto and gas sales are taken out, core sales inched up by just 0.1%, a disappointing result.

In other news, the Consumer Price Index (CPI) rose by 0.6% in August. This number appears somewhat inflationary, but like retail sales was driven almost entirely by energy prices, which surged by 5.6%, with gasoline up 9%. The core rate, which factors out food and energy prices, increased by a benign 0.1%. On a year-over-year basis, core CPI actually fell from +2.1% to +1.9%. The markets will focus more on the decline in the core rate. Most experts anticipate core consumer inflation to fall in the future along with global demand as a result of struggling economies around the world.

The equity markets are up big again this morning. Presumably, this has something to do with the increase in consumer spending, but it more likely reflects optimism over yesterday’s Fed announcement that another round of quantitative easing will begin …today. And finally, the University of Michigan confidence survey jumped from 74.3 to 79.2 in September. This is the second highest level reached since before the recession began. For some reason, Americans have suddenly become more upbeat, although it isn’t clear exactly why.

Bond yields are again on the rise. The 30-year Treasury-bond rose above 3% for the first time in 16 months.

MARKET INDICATIONS AS OF 9:37 A.M. CENTRAL TIME

DOW	Up 90 to 13,630
NASDAQ	Up 34 to 3,190
S&P 500	Up 14 to 1,474
1-Yr T-bill	current yield 0.16%; opening yield 0.15%
2-Yr T-note	current yield 0.26%; opening yield 0.24%
5-Yr T-note	current yield 0.72%; opening yield 0.64%
10-Yr T-note	current yield 1.88%; opening yield 1.72%
30-Yr T-bond	current yield 3.10%; opening yield 2.93%

FED ANNOUNCES ANOTHER ROUND OF QUANTITATIVE EASING

Thursday, September 13, 2012

SEPTEMBER FOMC MEETING BRINGS MORE ACCOMODATION

A substantial majority of economists and traders had expected the Fed to announce another round of bond purchases, despite the dubious success of the prior programs, and at 12:30 pm New York time, they did exactly that. The official press release from the Federal Reserve acknowledged the Federal Open Market Committee believes “…economic activity has continued to expand at a moderate pace,” but is “concerned that without further policy accommodation, economic growth might not be strong enough to generate sustained improvement in labor market conditions.” Fed officials are also concerned that “global financial markets pose significant downside risks to the economic outlook.”

To address these concerns, the FOMC has committed to purchase an additional $40 billion per month in agency mortgage-backed securities. There is no set date at which purchases will end. In fact, the statement goes on to say, “If the outlook for the labor market does not improve substantially, the Committee will continue its purchases of agency mortgage-backed securities, undertake additional asset purchases, and employ its other policy tools as appropriate…”

The FOMC also reiterated that it would maintain longer-term asset purchases under the existing “Operation Twist” program until the end of the year, while reinvesting all principal payments from its portfolio of agency debt and mortgage-backed securities back into mortgage-backed securities. These combined purchases will increase longer-term security holdings by approximately $85 billion per month through the remainder of the year.

In addition, the Committee now anticipates that exceptionally low levels for the federal funds rate are likely to be warranted at least through mid-2015.

Equities rallied big following the announcement, but yields on longer-term bonds are rising. The word on the street is that some feel “it wasn’t enough” while others believe the open-endedness of QE3 is a bit unsettling. As Chris Low, Chief Economist of FTN Financial, pointed out this afternoon, “the most important point, however, is that the Fed has a great deal of flexibility. The FOMC announced something which sounds very big, but could in fact be very small. The Fed is committed to a sizable rate of purchases for only one quarter”

Regardless, the Fed can’t be too pleased with the bond market right now as today’s press release actually said the additional purchases were expected to “…put downward pressure on longer-term interest rates.”

For what it’s worth, yields on securities inside of three years do not appear to have moved substantially lower …from what have been near record low levels to begin with.

Listening to the talking heads on CNBC – no one seems to be wholly convinced this is a good idea.

The Dollar is falling

Gold is rising

Crude oil is rising

Bernanke will answer questions following a press conference which just began.

MARKET INDICATIONS AS OF 1:05 P.M. CENTRAL TIME

DOW	UP 170 to 13,504
NASDAQ	UP 42 to 3,156
S&P 500	UP 15 to 1,448
1-Yr T-bill	current yield 0.16%; opening yield 0.16%
2-Yr T-note	current yield 0.23%; opening yield 0.24%
5-Yr T-note	current yield 0.66%; opening yield 0.69%
10-Yr T-note	current yield 1.78%; opening yield 1.75%
30-Yr T-bond	current yield 2.97%; opening yield 2.92%

A ROTTEN PAYROLL REPORT

Friday, September 7, 2012

JUST 96,000 JOBS ADDED IN AUGUST
Yesterday’s ADP employment report, which showed a 201k increase in private sector jobs, bolstered hopes that today’s official payroll report would surprise to the upside and helped spark a stock market rally. Those hopes were dashed this morning as the Bureau of Labor Statistics announced that the economy added a mere 96,000 jobs in August. Making matters worse, revisions to prior months subtracted another 41,000 as June was cut from +64k to +45k, and July from +163k to +141k. This was a lousy report. Manufacturing employment posted the first decline since last September, falling by 15k for the biggest drop since August 2010. Temporary employment declined 5k and government jobs were reduced by 7k. On the plus side, food and drinking establishments added 28k, professional services added 27k, and healthcare increased 17k. The average work week was unchanged at 34.4 hours while average hourly earnings actually fell by a cent to $23.52 and are up a scant 1.7% over the past 12 months.

DON’T BE FOOLED BY DROP IN UNEMPLOYMENT RATE
The optimists will point to the unemployment rate falling to 8.1% in August from 8.3% previously. However, the household survey from which this data is derived reported a 119k decline in the number of people employed. The reason the unemployment rate dropped was that the labor force fell by a much larger 368k. That took the labor force participation rate down to 63.5%, the lowest rate since May 1979. The employment to population ratio now stands at just 58.3%. The unemployment rate has been above 8% since February 2009, the longest such streak in monthly data going back to 1948.

All in all, a very disappointing report, which will bolster Fed Chairman Bernanke’s position that more accommodation is needed. Recall that the minutes from the last FOMC indicated several members thought additional accommodation would be needed fairly soon barring a “substantial and sustainable strengthening in the pace of economic recovery.” Today’s payroll report certainly does not qualify as improvement. The FOMC meets next Thursday and we would not be surprised to see them extend the “late-2014” language or possibly even announce another round of quantitative easing. After selling off on yesterday’s ADP and ECB news, bonds have rallied this morning on the weaker data and increasing odds of additional Fed action. Stocks are mostly unchanged today, following yesterday’s big move higher. Attention now turns to next week’s FOMC meeting. Have a good weekend.

Trivia: On Tuesday, the national debt topped the $16 trillion mark. That’s $16,000,000,000,000. According to USDebtClock.org that works out to about $51,000 per citizen and $140,000 per taxpayer. By the time you read this, we will have added another $7.6 billion to the total.

MARKET INDICATIONS AS OF 9:05 A.M. CENTRAL TIME

DOW	Up 9 to 13,301
NASDAQ	Down 1 at 3,135
S&P 500	Up 4 to 1,436
1-Yr T-bill	current yield 0.16%; opening yield 0.17%
2-Yr T-note	current yield 0.25%; opening yield 0.26%
5-Yr T-note	current yield 0.61%; opening yield 0.68%
10-Yr T-note	current yield 1.60%; opening yield 1.68%
30-Yr T-bond	current yield 2.75%; opening yield 2.80%

STOCKS RALLY TO FOUR-YEAR HIGH ON ECB BOND BUYING, STRONG ADP REPORT

Thursday, September 6, 2012

STOCKS POST BIG GAINS
U.S. stock markets posted big gains today in the wake of a stronger than expected report on private payrolls and the emergence of an European Central Bank bond buying plan. Payroll processor ADP’s report showed private payrolls grew by 201k during August. That was well above the forecast for a gain of 140k and sparked enthusiasm that tomorrow’s official employment report from the Bureau of Labor Statistics might top the expected 130k gain. Fanning the flames was the ISM non-manufacturing index which unexpectedly rose to 53.7, placing it firmly into expansionary territory, in contrast with the manufacturing index which came in below 50 for the third straight month.

Another major factor in today’s stock rally were the details on the ECB’s proposed bond buying program. Although there is some opposition from the usual suspects, Germany in particular, it appears this program may have legs. In order to avoid the stigma that the ECB is monetizing the debt of struggling countries, purchases would be restricted to maturities of less than three years and come with a number of conditions attached. Investors seem to believe in it and have driven yields on Spanish and Italian debt sharply lower. After peaking at 6.50% in late-July, the yield on Spanish 2-year notes has fallen to 2.78%, the lowest level since April. The 10-year Spanish yield has fallen from 7.50% to 5.96%. Yields on Italian debt have also declined with the 2-year retreating from a peak of 5.00% down to 2.32% and the 10-year at 5.24% versus 6.55% in July. While there remains much work to be done, at this point it appears the immediate crisis has been averted. Of course, nothing has fundamentally changed, as peripheral Europe remains burdened with weak economies and massive public debts. But at least we have kicked the can down the road a bit.

Both the Dow Jones Industrial Average and the S&P 500 have reached four-year highs. For the year, the Dow is up 8.8% and the S&P 500 is up 13.9%. Bonds, meanwhile, have given up gains made since Bernanke’s Jackson Hole speech last Friday with the two-year T-note rising to 0.26% and the 10-year T-note at 1.68%, matching the close from two-weeks ago.

FRIDAY’S EMPLOYMENT REPORT
Markets now turn their attention to tomorrow morning’s payroll report. Given the minutes from the last FOMC meeting, and Bernanke’s Jackson Hole speech, a weak number will likely cement expectations for additional easing measures from the Fed. A strong number may be enough to keep the Fed in wait and see mode. Stay tuned.

MARKET INDICATIONS AS OF 4:30 P.M. CENTRAL TIME

DOW	Up 244 to 13,292
NASDAQ	Up 66 to 3,136
S&P 500	Up 29 to 1,432
1-Yr T-bill	current yield 0.17%; opening yield 0.16%
2-Yr T-note	current yield 0.26%; opening yield 0.24%
5-Yr T-note	current yield 0.68%; opening yield 0.62%
10-Yr T-note	current yield 1.68%; opening yield 1.60%
30-Yr T-bond	current yield 2.80%; opening yield 2.71%

ISM BELOW 50 FOR THIRD STRAIGHT MONTH

Tuesday, September 4, 2012

GLOBAL MANUFACTURING SLOWDOWN

The Institute for Supply Management’s (ISM) U.S. manufacturing index came in below expectations, declining to 49.6 in August from 49.8 in July. Readings below 50 indicate contraction in the manufacturing sector. This is the third month in a row with a sub-50 print and marks the first such string since the first half of 2009. Components within the index do not paint a pretty picture with new orders, an indicator of future activity, falling from 48.0 to 47.1, production falling from 51.3 to 47.2, and prices paid jumping from 39.5 to 54.0 on rising energy costs.

The manufacturing slowdown is not limited to the United States. The United Kingdom’s Purchasing Managers Index (PMI) did rebound from 45.2 to 49.5, but it remains below 50. In Europe, the ISM for August was a worse than expected 45.1, while China’s PMI fell from 49.3 to 47.6. These readings are consistent with recession and reflective of shrinking global trade.

Also in the U.S. today, the Commerce Department reported that construction spending for July declined 0.9%, well below the 0.4% gain economists were forecasting. The headline was dragged lower by a 5.5% drop in the volatile home improvement category. Removing that item, the result is a somewhat less bad 0.2% decline. This reports suggests Q3 GDP is now tracking at less than 2%.

BERNANKE’S JACKSON HOLE COMMENTS
Despite a lot hype from the media, Fed Chairman Ben Bernanke’s speech at the central banker’s confab in Jackson Hole, Wyoming didn’t reveal much that we didn’t already know. Namely, that the current state of economic growth is insufficient and the Fed is prepared to provide additional support if necessary. Chairman Bernanke’s speech reviewed and defended previous actions and reaffirmed his willingness to do more. Perhaps the most important line in his speech was when he said, “The stagnation of the labor market in particular is a grave concern not only because of the enormous suffering and waste of human talent it entails, but also because persistently high levels of unemployment will wreak structural damage on our economy that could last for many years.”

Bernanke’s comments place even greater importance on the upcoming employment report, due to be released Friday morning. You might also recall that the minutes from the last FOMC meeting suggested the committee was ready to provide additional accommodation “unless incoming information pointed to a substantial and sustainable strengthening in the pace of economic recovery.” While a strong employment report may keep the Fed on hold a bit longer, a weak report will most likely lead the markets to conclude that additional easing is imminent.

MARKET INDICATIONS AS OF 2:10 P.M. CENTRAL TIME

DOW	Down 20 to 13,070
NASDAQ	Up 12 to 3,079
S&P 500	Up 1 to 1,408
1-Yr T-bill	current yield 0.158%; opening yield 0.158%
2-Yr T-note	current yield 0.232%; opening yield 0.222%
5-Yr T-note	current yield 0.626%; opening yield 0.591%
10-Yr T-note	current yield 1.58%; opening yield 1.55%
30-Yr T-bond	current yield 2.69%; opening yield 2.67%

AUGUST 2012 BLOOMBERG INTEREST RATE AND ECONOMIC SURVEYS

Tuesday, August 28, 2012

From August 3 through August 8, 2012, Bloomberg News surveyed 59 top economists for their most recent opinions on the U.S. economy and interest rates. The following are summaries of their responses:

The Economic Forecast

Unemployment Rate - The median forecast for Q3 2012 unemployment is 8.2%. The median forecast for the next six quarters are 8.1%, 8.1%, 8.0%, 7.9%, 7.7% and 7.5%.

Non-farm payrolls grew by 163K in July, soundly beating consensus expectations of 100K, as the private sector added 172K, while government jobs fell by 9K, mostly at the state and local levels. Revisions to May and June payrolls reduced previously reported gains by a net 6k. The unemployment rate rose from 8.2% to 8.3%, despite a 150K drop in the labor force, as the separate household survey actually indicated job losses of 195k.

The number of people unemployed for 27 weeks or longer declined by 185K to ~5.2 million, or 40.5% of total unemployed. Those working part-time jobs for economic reasons ticked up by 36K to 8.2 million. Since January of 2009, the number of part-timers who would prefer a full-time job has remained above eight million for each month except two, March and April 2012. The U-6 measure of unemployment (total unemployed, plus all marginally attached workers, plus part-time workers for economic reasons) rose to 15.0% from 14.9% in June.

A couple of interesting studies were recently released, emphasizing the problem of underemployment among members of Generation Y, which I recently learned included people ranging in age from 18-29. One of the studies, conducted by marketing research firm Millennial Branding and career research firm Payscale, found that “almost half of merchandise displayers — better known as floor clerks — and 83% of clothing sales associates indicated having a bachelor's degree,” indicative of recent graduates inability to find jobs after having racked up tens of thousands of dollars in school debt. The jobs recent grads would ordinarily receive after graduation, are instead going to more seasoned, older veterans of the given field, underscoring the problem of under-employment in both the older and younger generations. The unemployment rate for 18 and 19-year old kids is 22.2%, and the unemployment rate for 20 to 24-year olds is 13.5%. Only 6.5% of those 35 and older are without jobs.

Real GDP (annualized economic growth) - The median GDP growth forecast for Q3 2012 is +1.8%. The median forecast for the next six quarters are +2.1%, +1.9%, +2.4%, +2.6%, +2.8% and +2.95%.

July retail sales rose by 0.8%, topping expectations of 0.3% and providing some hope for a better Q3 GDP print. But most recent talk, as it relates to U.S. GDP, has centered around the effects of going headfirst over the “fiscal cliff.” The Congressional Budget Office recently updated its Budget and Economic Outlook, and the outlook was quite bleak. According to the CBO, if Congress and the White House do nothing to change current policy, and the current tax rates do indeed sunset, and $100 billion in automatic spending cuts (sequestration) kick in, they project the economy would contract 0.5% in 2013 and the unemployment rate would move higher to 9.1%.

From the CBO, “In January 2013, substantial changes to tax and spending policies are scheduled to take effect under current law. Whether lawmakers allow those policy changes to take effect or alter them will play a crucial role in determining the path of the federal budget over the next decade and the outlook for the economy in the near term and beyond.”

As a result of the immense fiscal uncertainty for the 2013 outlook, manufacturers are beginning to scale back their expansion. That was evidenced in last week’s durable goods and capital goods orders reports. Durable goods orders, purchases of equipment meant to last at least three years, increased 4.2% in July, primarily on a huge 53.9% increase in non-defense aircraft orders. However, once the transportation component is stripped away, orders actually fell 0.4%, the second decline in as many months. June was revised lower from -1.1% to -2.2%.

Capital goods orders, the raw materials used to produce a finished product and considered a proxy for future business investment, were also lower, down in July by 3.4%. Capital goods shipments, however, were unchanged in July from June’s 1.5% increase.

Consumer Prices - The median annualized consumer inflation forecast for Q3 2012 is +1.5%. The median forecast for the next six quarters are +1.7%, +1.6%, +1.9%, +2.1%, 2.1% and 2.2%.

The Consumer Price Index (CPI) was unchanged in July for the second consecutive month, as U.S. companies find it difficult to raise prices amid joblessness above 8%. The core CPI, which excludes food and energy, rose a modest 0.1% for the month. Year-over-year, headline CPI rose 1.4% and the core rate was up 2.1% for the year, the smallest year-over-year core increase since October 2011.

Over the last two months, the price per barrel of West Texas Intermediate oil has moved higher by 13.5%, sending the national cost for a gallon of gasoline from an average of $3.32 on July 1st to $3.76 on August 27th. Prices will likely go higher over the coming weeks as a Hurricane churns in the Gulf of Mexico and is forecast to make landfall near New Orleans. From a Bloomberg story, the Bureau of Safety and Environmental Enforcement (a group within the Dept. of Interior) reported the storm “has halted 78 percent of U.S. oil production in the Gulf, 48 percent of natural-gas output and forced evacuations from 346 production platforms and 41 rigs.” The higher fuel prices are expected to collude with the crippling drought in the Midwest, wreaking havoc on crops and driving prices higher for crops like corn and soybeans, the primary ingredients for livestock feed and the foundation of virtually every American meal.

The Interest Rate Forecast

The Fed remains committed to low rates and open to the idea of further accommodation, perhaps in the form of additional MBS purchases, in attempt to get the stalled economy moving again. According to an Associated Press story, this recovery, which theoretically began in the summer of 2009, has underperformed all other post-recession recoveries since WWII. The story cites a slack labor market, flat to falling wages and sluggish consumer spending, all culminating into overall meager growth; basically every driver of the U.S. economy is lagging in the recovery. The lone exception, according to the article, is corporate profits, which have moved the Dow Jones Industrial average 54% higher from the June 2009 low.

Recently, Chicago Fed President Charles Evans and Cleveland Fed President Sandra Pianalto spoke about further Fed action to spur greater economic growth and lower the unemployment rate, which is one half of their mandated purpose. The other half, controlling inflation, is currently not a threat. Both reiterated their support for a new quantitative easing program. Pianalto, considered a centrist on the FOMC, was somewhat reserved in her support for a new program of purchasing additional MBS in the open market, stating that she supported Fed actions “that provide benefits with manageable risks.” But, she continued, “Monetary policy cannot solve all of the economy’s problems, especially in today’s highly uncertain environment.” She was referring to the uncertainty of the European debt crisis and the quickly approaching fiscal cliff.

Mr. Evans, strongly in the dovish camp, was much more blatant in his unyielding support of new asset purchases. “Given the risks we face, I think it is vital that we make such moves today. I don’t think we should be in a mode where we are waiting to see what the next few data releases bring.”

On the other end of the policy spectrum is Dallas Fed President Richard Fisher, an ardent hawk in monetary terms. The Dallas Fed published a paper, aptly titled “Ultra Easy Monetary Policy and the Law of Unintended Consequences,” written by William White, solicited by Mr. Fisher, in which Mr. White discusses “the possible consequences of the current path of monetary policy.” The paper is very long, 45 pages, but is summarized here in the WSJ.

2-year Treasury-note - The average 2-year yield forecast for Q3 2012 is 0.28%. The average yield forecast for the next six quarters are 0.31%, 0.39%, 0.48%, 0.61%, 0.74% and 0.99%. The current 2-yr Treasury yield is 0.26%.

	Q3 2012	Q4 2012	Q1 2013	Q2 2013	Q3 2013	Q4 2013	Q1 2014
Current Survey (Aug 2012)	0.28%	0.31%	0.39%	0.48%	0.61%	0.74%	0.99%
Prior Survey (July 2012)	0.30%	0.37%	0.47%	0.59%	0.71%	0.80%	1.05%
One Year Prior (Aug 2011)	1.10%	1.31%	1.63%	N/A	N/A	N/A	N/A

10-year Treasury-note - The average 10-year yield forecast for Q3 2012 is 1.63%. The average forecast for the next six quarters are 1.75%, 1.93%, 2.10%, 2.29%, 2.46% and 2.75%. The current 10-year yield is 1.63%.

	Q3 2012	Q4 2012	Q1 2013	Q2 2013	Q3 2013	Q4 2013	Q1 2014
Current Survey (Aug 2012)	1.63%	1.75%	1.93%	2.10%	2.29%	2.46%	2.75%
Prior Survey (July 2012)	1.78%	1.94%	2.11%	2.30%	2.51%	2.67%	2.91%
One Year Prior (Aug 2011)	3.43%	3.57%	3.73%	N/A	N/A	N/A	N/A

30-year Treasury-bond - The average 30-year yield forecast for Q3 2012 is 2.70%. The average forecast for the next six quarters are 2.83%, 3.00%, 3.15%, 3.33%, 3.51% and 3.76%. The current 30-year yield is 2.75%.

	Q3 2012	Q4 2012	Q1 2013	Q2 2013	Q3 2013	Q4 2013	Q1 2014
Current Survey (Aug 2012)	2.70%	2.83%	3.00%	3.15%	3.33%	3.51%	3.76%
Prior Survey (July 2012)	2.87%	3.03%	3.19%	3.37%	3.54%	3.70%	3.96%
One Year Prior (Aug 2011)	4.62%	4.73%	4.82%	N/A	N/A	N/A	N/A

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

DOW	Down 21 to 13,102
NASDAQ	Up 4 to 3,077
S&P 500	Down 0.5 to 1,407
1-Yr T-bill	current yield 0.17%; opening yield 0.17%
2-Yr T-note	current yield 0.26%; opening yield 0.26%
5-Yr T-note	current yield 0.67%; opening yield 0.67%
10-Yr T-note	current yield 1.63%; opening yield 1.63%
30-Yr T-bond	current yield 2.75%; opening yield 2.74%

BOND YIELDS FALL FOLLOWING RELEASE OF FOMC MINUTES

Wednesday, August 22, 2012

FED REVEALS A WILLINGNESS TO BE EVEN MORE ACCOMMODATIVE

The minutes from the July 31 – August 1 FOMC meeting were released this afternoon. Investors were watching for signs that the Fed would launch another round of asset purchases, and indeed Fed officials seemed to indicate that this could well happen in the near future. The important thing to remember is that this Fed meeting took place before the July employment and July retail sales reports were released. Both releases showed considerable improvement, and may have altered Fed thinking, which at the time had been influenced by a string of abysmal spring numbers. So, take all of this in context.

According to the minutes, some committee members thought “additional accommodation would likely be warranted soon, unless incoming information pointed to substantial and sustainable strengthening in the pace of economic recovery.” Other comments in this vein included the idea that there was “substantial capacity for additional asset purchases,” and that a new asset purchase program “…could provide additional support for economic recovery.”

Although members reiterated that economic conditions warranted maintaining the overnight funds target at “exceptionally low levels” at least through late 2014, they discussed extending this date, and noted that an extension might be particularly effective if it were done in conjunction with a statement indicating that they would likely maintain their stance while the recovery progressed. A few members even suggested that the target date be scrapped, with monetary policy being solely dependent on economic performance. Further discussion on duration of interest rate policy is expected at the next FOMC meeting scheduled for September 12-13.

The Fed also talked about cutting the interest paid on excess reserves. This is a hotly debated topic, primarily because banks have been parking huge amounts of cash at the Fed in the form of excess reserves where they earn 0.25%, not a bad rate to earn on idle cash. In theory, if the Fed cut this rate to zero (or even in half), the funds would flow out of the Fed, with luck into consumer and business loans, but more likely into short-term securities, which would make the competition for these securities even more intense. The result would be even lower short-term yields, a particularly difficult problem for money market funds, which have already slashed fees to keep daily rates above the zero mark.

The S&P 500 rebounded sharply to close even on the day. The DOW reversed some big losses, but wasn’t able to finish in positive territory as HP and Caterpillar led the losers.

Bonds rallied, with the 10-year Treasury-note yield falling from 1.80% to 1.69%, and the 30-year bond yield dropping from 2.90% to 2.80%.

MARKET INDICATIONS AS OF 4:15 P.M. CENTRAL TIME

DOW	DOWN 31 to 13,172
NASDAQ	UP 6 to 3,073
S&P 500	Unchanged at 1,413
1-Yr T-bill	current yield 0.18%; opening yield 0.18%
2-Yr T-note	current yield 0.26%; opening yield 0.29%
5-Yr T-note	current yield 0.69%; opening yield 0.79%
10-Yr T-note	current yield 1.69%; opening yield 1.80%
30-Yr T-bond	current yield 2.80%; opening yield 2.90%

TREASURY ANNOUNCES MODIFICATIONS TO FANNIE AND FREDDIE AGREEMENTS

Friday, August 17, 2012

10% DIVIDEND PAYMENT TO END

The U.S. Treasury Department announced today that it will modify its Preferred Stock Purchase Agreements (PSPAs) with the conservator of Fannie Mae and Freddie Mac. The most notable amendment will be to replace the required 10% dividend payment to the Treasury with a quarterly sweep of every dollar of profit earned going forward. As a result, Bloomberg News notes that the GSEs “will not be permitted to retain profits, rebuild capital or return to the market in their prior form." And, as this morning’s press release points out, the modification will “end the circular practice of Treasury advancing funds to the GSEs simply to pay dividends back to the Treasury,” as well as ensuring all earnings “will be used to benefit taxpayers for their investment in those firms.” This change will take effect in the first quarter of 2013.

The modifications also included an acceleration of the planned reduction of Fannie and Freddie’s retained investment portfolio size. Previous agreements required that both portfolios shrink by 10% annually. The new agreement increases this pace to 15%, which will accelerate the $250 billion target levels by four years. A related Bloomberg article reported that Fannie's portfolio size has been declining at a 19.57% annual rate, and is now at $672 billion, while Freddie's portfolio is shrinking by 19.50% annually and is currently at $581 billion. Fifteen-percent shouldn’t be a problem for either company.

With both Fannie and Freddie reporting profits last quarter, and housing prices stable or rising across much of the nation, the healing process appears to be underway.

Nothing in this morning’s announcement will affect the Treasury’s commitment to supporting the GSEs going forward. Agency spreads tightened after the announcement, suggesting that the modifications have pleased investors, and also iterating the obvious point that there will be less and less agency supply available to meet investor demand.

MARKET INDICATIONS AS OF 9:50 A.M. CENTRAL TIME

DOW	UP 2 to 13,253
NASDAQ	UP 0 to 3,062
S&P 500	UP 1 to 1,414
1-Yr T-bill	current yield 0.18%; opening yield 0.18%
2-Yr T-note	current yield 0.28%; opening yield 0.29%
5-Yr T-note	current yield 0.79%; opening yield 0.82%
10-Yr T-note	current yield 1.80%; opening yield 1.84%
30-Yr T-bond	current yield 2.92%; opening yield 2.95%

IMPROVEMENT IN RETAIL SALES BOOSTS ECONOMIC OUTLOOK

Tuesday, August 14, 2013

CONSUMERS SPEND BIG IN JULY

The Commerce Department announced this morning that U.S. retail sales had risen by 0.8% in July, showing significant improvement over the severely disappointing June numbers. The increase was well above the median forecast for a 0.3% gain and a sharp rebound from the revised 0.7% loss experienced in the previous month. Building materials spearheaded the month’s increase with a 1.0% gain, while electronics sales rose 0.9% and autos 0.8%. After an awful consumer report card in the second quarter, spending is suddenly looking much better. Analysts have already begun revising third quarter forecasts with Morgan Stanley lifting consumption up from 1.2% to 1.5% and forecasted GDP from 1.7% to 1.9%. It had been fairly clear that the mild winter weather pulled sales (and hiring) forward into Q1 at the expense of Q2, but the magnitude of this distortion has been surprising. It now appears the distortion has run its course.

SMALL BUSINESSES ARE INCEASINGLY PESSIMISTIC

Although the consumer seems to perking up, small businesses are still mighty glum. The July National Federation of Independent Business (NFIB) Small Business Optimism index dropped from 91.4 to 91.2, reaching the lowest level of the year. The NFIB reported that business owner optimism was “disturbingly low and at recession levels.” To put the July number in context, the NFIB website reports the index has averaged 90 since the recession officially ended in June 2009, making this the weakest recovery in almost 40 years of survey history. Although the dreaded “fiscal cliff” has created its share of uncertainty, 20% of business owners cite poor sales as their top problem.

Larger companies are apparently feeling better in this super accommodative rate environment because they are easily able to borrow …and at historically low levels. The Wall Street Journal reported yesterday that U.S. companies had sold $75 billion in investment-grade bonds last month, the heaviest July sales ever recorded, at a record low interest rate of 3.2%. Over the past 30 years, the average rate had been about 7.2%. Reuters reported that sales of investment grade corporates are now on track to hit the $1 trillion mark this year.

The producer price index (PPI) was also released this morning. Overall PPI rose by 0.3% in July, while the core rate (ex-food and energy) climbed by 0.4%. Both of these numbers were higher than expected, but not by much. Many people had expected a rise in food prices as a result of the drought, and indeed monthly food prices were up by 0.5%, led by big increases in beef and dairy. On a year-over-year basis, headline PPI is up just 0.5%. One year ago, this rate was 7.1% due mainly to soaring oil prices. Few believe inflation will be a problem in the foreseeable future due to the current global slowdown. Germany reported his morning that its GDP had expanded by 0.3% in the second quarter, a bit better than expected, although the Eurozone as a whole contracted by 0.2%.

The equity markets have decided to focus on the good retail sales news as well as Germany’s ability to skirt recession for another quarter. Stock prices are higher and bonds have traded off, particularly on the long end of the curve where the 30-year Treasury bond yield has climbed from 2.75% to 2.83%.

MARKET INDICATIONS AS OF 10:50 A.M. CENTRAL TIME

DOW	UP 46 to 13,216
NASDAQ	Up 10 to 3,032
S&P 500	UP 3 to 1,406
1-Yr T-bill	current yield 0.17%; opening yield 0.17%
2-Yr T-note	current yield 0.27%; opening yield 0.27%
5-Yr T-note	current yield 0.74%; opening yield 0.71%
10-Yr T-note	current yield 1.72%; opening yield 1.67%
30-Yr T-bond	current yield 2.83%; opening yield 2.75%

A PROFITABLE QUARTER FOR FANNIE AND FREDDIE

August 9, 2012

MORTAGE GIANTS MAY HAVE TURNED THE CORNER

Fannie Mae announced yesterday that it earned $5.1 billion during the second quarter and paid a $2.9 billion (10%) dividend to the Treasury Department for net company profit of $2.2 billion. In the first quarter, Fannie had earned $2.7 billion and paid a dividend of $2.8 billion. At this point, the cost of the Fannie Mae bailout stands at $116 billion, the most expensive rescue of a single company in history …but $26 billion has now been paid back to the Treasury.

Freddie Mac reported earlier this week that it had earned $3 billion during the quarter and paid a $1.8 billion dividend to the Treasury for net income of $1.2 billion. In the previous quarter, Freddie made $1.2 billion and paid slightly more than this in dividends, resulting in the need to borrow a tiny $19 million. According to USA Today, if Freddie were not required to pay the government a 10% dividend, it would not have needed government funds in any of the past six quarters. Freddie Mac has borrowed a total of $72 billion and paid back $19 billion.

Recent improvement in the financial condition of the mortgage giants is primarily a result of improvement in U.S. home prices, which increases the value of their mortgage loan portfolios. As evidence of this, Freddie Mac’s house price index rose 4.8% from March to June, the largest increase in eight years, while CoreLogic reported earlier this week that U.S. home prices had risen by 1.3% in June, the fourth straight monthly increase.

At the end of 2012, the borrowing capacity of Freddie and Fannie will no longer be unlimited. After this point, borrowing capacity reverts back to a formula that is essentially $200 billion per company, minus all borrowings that occurred before the unlimited ability went into effect. Thus, Freddie would still have remaining capacity of approximately $150 billion and Fannie about $125 billion. With neither of these government-owned companies currently in need of additional funds, these amounts seem more than adequate.

Neither Fannie or Freddie actually make mortgage loans themselves, but rather facilitate liquidity by creating a secondary market. They do this by purchasing qualifying loans from banks and other lenders before packaging them into mortgage-backed securities.

Bond yields are slightly higher this morning. The best guess as to why is that European concern has subsided for the time being.

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

DOW	UP 11 to 13,186
NASDAQ	UP 6 to 3,017
S&P 500	UP 1 to 1,399
1-Yr T-bill	current yield 0.18%; opening yield 0.18%
2-Yr T-note	current yield 0.28%; opening yield 0.28%
5-Yr T-note	current yield 0.75%; opening yield 0.73%
10-Yr T-note	current yield 1.71%; opening yield 1.65%
30-Yr T-bond	current yield 2.78%; opening yield 2.75%

PAYROLLS FINALLY SURPRISE TO THE UPSIDE

Friday, August 3, 2012

JOB GROWTH IN JULY TOPS ESTIMATES

The Bureau of Labor Statistics reported this morning that nonfarm payrolls rose by 163,000 in July, significantly better than the 100,000 median forecast in the Bloomberg economist survey. Net revisions to the prior two months subtracted 6,000. So, through the first seven months of 2012, company job growth has averaged 151,000. This figure nearly matches the monthly average from 2011, although the 2012 growth from quarter-to-quarter has been wildly uneven as a result of unusually winter weather earlier in the year. Apparently, the labor market was neither as strong as the first quarter average (+225,000) nor as weak as the second quarter (+73,000).

July payroll gains were concentrated in professional and business services (+49k), food service and drinking establishments (+29k), manufacturing (+25k) and health care (+12k). Jobs were lost in the government (-9k) and utilities (-8k) sectors.

The total number of Americans officially counted as unemployed crept up from 12.7 to 12.8 million. According to the most recent Job Openings and Labor Turnover (JOLT) survey, there are approximately 3.5 job seekers for every posted job.

The unemployment rate moved from 8.2% to 8.3% as the separate household survey used to generate the unemployment rate showed a drop of 195,000 jobs during the month. Unemployment has now been above the 8% mark for 42 consecutive months, the longest period since recordkeeping began in this series in 1948. The percentage of job-out-of-work men was little changed in July at 7.7%, while women actively seeking employment held steady at 7.5%. Teenagers seeking work are having a particularly tough time, with 23.8% reportedly unable to find jobs.

The U6 unemployment rate, also generated from the household survey, rose from 14.9% to 15.0% last month. This broader measure includes Americans who have not actively searched for work in the past four weeks but would still like a job, along with involuntary part-time workers, a large group of “discouraged” workers …and basically everyone who would accept a full-time position if one were offered.

The labor market participation rate declined slightly from 63.8% to 63.7%, while the percentage of the U.S. population holding a job declined to a new record low of 58.4%.

So far this morning, the equity markets are up big and bond yields are mostly higher. Although the July employment report still suggests significant weakness, on the whole, the numbers were better than the markets had anticipated.

Most consumer confidence readings took a beating in the spring and summer months as a result of unexpectedly weak data. But, job gains typically help consumer confidence. …and confidence, in theory, should fuel spending …and spending feeds economic growth...

In other news, the ISM non-manufacturing (service sector) index rose from 52.1 to 52.6 in July. This is also a positive surprise as economists had expected the number to be unchanged. As with the ISM manufacturing index, released earlier this month, any figure above the 50 mark indicates expansion.

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

DOW	UP 217 to 13,096
NASDAQ	UP 56 to 2,966
S&P 500	UP 24 to 1,386
1-Yr T-bill	current yield 0.17%; opening yield 0.16%
2-Yr T-note	current yield 0.23%; opening yield 0.22%
5-Yr T-note	current yield 0.65%; opening yield 0.61%
10-Yr T-note	current yield 1.56%; opening yield 1.48%
30-Yr T-bond	current yield 2.64%; opening yield 2.55%

ADP, ISM, FOMC

Wednesday, August 1, 2012

MIXED SIGNALS FROM ADP AND ISM
The economy continues to struggle with very mediocre performance and mostly disappointing data, occasionally interrupted by a slightly encouraging bit of information. Today’s positive news came in the form of a better than expected ADP National Employment Report, which showed private payrolls expanding by 163k during July, topping the consensus estimate for a gain of 120k and offering a glimmer of hope for the official, and more important, Bureau of Labor Statistics employment report due out on Friday.

Any enthusiasm for the news was quickly quelled with the release of the ISM Manufacturing Index, which fell just short of breakeven with a second consecutive monthly reading below 50. July’s 49.8 result followed 49.7 in June and signals contraction in the manufacturing sector. Today’s data confirms what we already knew, a slowdown in the one sector of the economy that had previously shown strength.

Looking at other parts of the world the news isn’t much better. The Euro-area PMI Manufacturing index, which also utilizes a breakeven level of 50, fell from 44.1 to 44 in July. Those are levels consistent with recession. Data for Germany, France, and the U.K. all touched three-year lows. The PMI index for China is teetering on the brink of contraction at 50.1.

FOMC SITS LOOSE
The Federal Reserve’s policy setting Federal Open Market Committee (FOMC) wrapped up a two-day meeting today. While many market participants are expecting additional easing measures, most didn’t expect action until the September meeting. The FOMC obliged, announcing no major new policy initiatives and maintaining current policy, including: the continuation through year end of its program to extend the average maturity of securities holdings (Operation Twist); the reinvestment of payments from its holdings of agency debt and agency mortgage-backed securities into agency mortgage-backed securities; and the so-called forward guidance language, the sentence in their statement that says, “conditions are likely to warrant exceptionally low levels for the fed funds rate until at least late-2014.” While no new measures were announced today, the FOMC did hint strongly at additional actions to come. The statement noted economic activity had decelerated, household spending was rising at a slower pace, and that “strains in global financial markets continue to pose significant downside risks to the economic outlook.” The Committee believes the unemployment rate will decline only slowly, and inflation will run at or below levels consistent with its mandate. Taken together, these statements all point to the implementation of additional accommodative measures in the coming months. The FOMC even went so far as to say, “The Committee will closely monitor incoming information on economic and financial developments and will provide additional accommodation as needed to promote a stronger economic recovery (emphasis added) and sustained improvement in labor market conditions in a context of price stability.” Barring a dramatic improvement between now and the next FOMC meeting on September 13^th, these statements certainly seem to lay the groundwork for additional measures.

It’s the ECB’s turn tomorrow, and given President Draghi’s “whatever it takes” pledge, the markets are looking for actions to back up those words and are likely to be very disappointed if they don’t materialize. Friday brings the July employment report. Financial markets seem to be disappointed that the FOMC didn’t announce anything new today and both stock and bond prices are lower this afternoon. But given the recent direction of economic data conditions and the FOMC desire to promote a stronger recovery, it may be just a matter of time before we see more action.

MARKET INDICATIONS AS OF 2:02 P.M. CENTRAL TIME

DOW	Down 16 to 12,993
NASDAQ	Down 12 to 2,928
S&P 500	Down 3 to 1,376
1-Yr T-bill	current yield 0.16%; opening yield 0.16%
2-Yr T-note	current yield 0.24%; opening yield 0.21%
5-Yr T-note	current yield 0.65%; opening yield 0.58%
10-Yr T-note	current yield 1.54%; opening yield 1.47%
30-Yr T-bond	current yield 2.61%; opening yield 2.55%

COMMENTS FROM EURO OFFICIALS OVERSHADOW WEAK DATA REPORTS

Friday, July 27, 2012

NEWS AND DATA FROM THE WEEK
Financial markets began the week in a grumpy mood as a string of bad news soured the outlook. In the United Kingdom, GDP declined for the third consecutive quarter with Q2 GDP falling 0.7% after declines of 0.3% and 0.4% in the prior two quarters. Over the past twelve months, the U.K. has contracted by 0.8%. Things aren’t much better in the rest of Europe as recession is settling in across the continent. Monday also saw renewed talk of another Greek default and Spanish bond yields topping 7.50% at one point. Moody’s lowered the outlook for Germany and the Netherlands, highlighting that the ongoing crisis is likely to have negative impacts on these previously stellar credits. Exports make up 40% of Germany’s GDP, with most of these going to other European countries, so it should be no surprise that Germany will suffer along with its neighbors.

The Wall Street Journal reported on Wednesday that of the 195 S&P 500 companies that had reported second quarter results thus far, 60% had missed revenue targets. Some of the weakness is no doubt related to the problems in Europe. According to the WSJ, when combined, the 27 countries of the European Union are the largest economy of the world and account for one-fifth of all U.S. exports. FTN Financial reported that falling exports are damaging corporate earnings, prompting 80% of the S&P 500 companies to lower guidance on future earnings. One of those lowering guidance was UPS, the world’s largest package delivery company. UPS package shipments are widely viewed as a leading indicator of economic activity. The company is projecting the U.S. will grow just 1% for the remainder of 2012.

Thursday’s release of the June durable goods report showed a strong headline increase of 1.6%. Unfortunately, that headline largely reflects a surge in aircraft orders as Boeing is reaping the benefits of airlines’ desire to add more fuel efficient planes to their fleets. While that’s good for Boeing, when aircraft orders are stripped out, durable goods ex-transportation were down 1.1%. Nondefense capital goods ex-aircraft, which feeds into GDP data, was down 1.4% in June. This key measure is flat over the past twelve months and, so far in 2012, is down 6% annualized.

Today, second quarter GDP was reported to have grown at a 1.5% annual rate, slightly better than the consensus forecast, but also the weakest showing since Q3-2011. Household consumption rose 1.5%, down from 2.4% in Q1 and the slowest pace in a year. Benchmark revisions going back to the first quarter of 2009 revealed that the recovery has been even weaker than previously reported. Annual growth during the recovery from 2009 through 2011 has averaged just 2.2%. Overall, the GDP report did not alter the perception of a barely growing economy and is not likely to alter the widely held belief that more Fed action is on the way.

STRONG RHETORIC, BUT WILL IT BE BACKED UP?
With all the glum news one might expect markets would be in a funk. And for the first three days of the week they were. The two-year Treasury note briefly traded below 0.20% while the 10-year touched a record low at 1.38% and equity markets sold off. But comments from European Central Bank President Mario Draghi on Thursday suggested the ECB would intervene as surging bond yields in Spain and Italy threaten the Euro common currency. Draghi said. “Within our mandate, the ECB is willing to do whatever it takes to preserve the euro and, believe me, it will be enough.” And today, German Chancellor Angela Merkel and French President Francois Hollande added further support, saying their countries are “bound by the deepest duty” to keep the euro area intact and will do everything necessary to protect the single currency. The challenge will be for these leaders to put their money where their mouths are, something that has proven to be a greater challenge throughout the crisis. None the less, financial markets cheered the news as yields on Spanish and Italian debt fell sharply and equity markets are closing the week with a strong rally.

MARKET INDICATIONS AS OF 11:36 A.M. CENTRAL TIME

DOW	Up 124 to 13,012 (Up 1.5% for the week)
NASDAQ	Up 43 to 2,936
S&P 500	Up 16 to 1,376 (Up 1.0% for the week)
1-Yr T-bill	current yield 0.17%; opening yield 0.17%
2-Yr T-note	current yield 0.25%; opening yield 0.23%
5-Yr T-note	current yield 0.65%; opening yield 0.59%
10-Yr T-note	current yield 1.52%; opening yield 1.44%
30-Yr T-bond	current yield 2.60%; opening yield 2.50%

JULY 2012 BLOOMBERG INTEREST RATE AND ECONOMIC SURVEYS

Friday, July 27, 2012

From July 6 through July 10, 2012, Bloomberg News surveyed 76 top economists for their most recent opinions on the U.S. economy and interest rates. The following are summaries of their responses:

The Economic Forecast

Unemployment Rate - The median forecast for Q2 2012 unemployment is 8.2%. The median forecast for the next six quarters are 8.2%, 8.1%, 8.0%, 7.9%, 7.8% and 7.7%.

The U.S. employment picture disappointed again in June, as non-farm payrolls grew by only 80K, missing expectations of 100K and showing very little improvement from May’s upwardly revised 77K. After accounting for the loss of government positions, private payrolls grew by 84k, of which, 25K were temporary workers, suggesting employers remain cautious and are reluctant to add permanent workers. According to the Bureau of Labor Statistics, in the second quarter of 2012, employment was up by an average of 75K per month, compared with an average monthly gain of 226K for the first quarter of the year.

The number of people unemployed was unchanged at 12.7 million, as was the unemployment rate at 8.2%. Those unemployed for 27 weeks or longer held as well at 5.4 million, or 42% of the unemployed. Workers employed part-time for economic reasons was 8.1 million. The U-6 measure of unemployment (total unemployed, plus all marginally attached workers, plus part-time workers for economic reasons) rose to 14.9% from 14.8% in May.

The lone bright spot from the June employment report was a 0.3% month-over-month increase in wages (2.0% year-over-year), and an increase in the workweek to 34.5 from 34.4. The increase to both of these factors suggests greater personal income and, hopefully, greater consumer spending in the future.

Real GDP (annualized economic growth) - The median GDP growth forecast for Q2 2012 is +1.8%. The median forecast for the next six quarters are +2.2%, +2.2%, +1.9%, +2.4%, +2.6% and +2.8%.

Second quarter gross domestic product slowed to 1.5% from 2.2% in Q1. Leading up to the release, any optimism for a strengthening recovery had been dampened following a string of disappointing economic releases throughout the second quarter, and most recently releases in July for June data. As highlighted in the table below, since June 1^st, the economic data released has fallen short of survey expectations by a 4:1 margin, with two unchanged. Nevertheless, the survey indicates growth to pick up in the second half of the year, and even improve sharply to 2.8% by Q4 2013.

Date	Event	Survey	Actual	Result
6/13	Advance Retail Sales	-0.20%	-0.20%	Neutral
7/16	Advance Retail Sales	0.20%	-0.50%	Worse
6/27	Cap Goods Orders Nondef Ex Air	1.90%	1.60%	Worse
7/26	Cap Goods Orders Nondef Ex Air	0.10%	-1.40%	Worse
6/1	Change in Nonfarm Payrolls	150K	69K	Worse
7/6	Change in Nonfarm Payrolls	100K	80K	Worse
6/1	Change in Private Payrolls	164K	82K	Worse
7/6	Change in Private Payrolls	106K	84K	Worse
6/25	Dallas Fed Manf. Activity	-2.0	5.8	*Better*
6/7	Initial Jobless Claims	378K	377K	*Better*
6/14	Initial Jobless Claims	375K	386K	Worse
6/21	Initial Jobless Claims	383K	387K	Worse
6/28	Initial Jobless Claims	385K	386K	Worse
7/5	Initial Jobless Claims	385K	374K	*Better*
7/12	Initial Jobless Claims	372K	350K	*Better*
7/19	Initial Jobless Claims	365K	386K	Worse
7/26	Initial Jobless Claims	380K	353K	*Better*
6/28	Kansas City Fed Manf. Activity	4.0	3.0	Worse
6/21	Philadelphia Fed.	0.0	-16.6	Worse
7/19	Philadelphia Fed.	-8.0	-12.9	Worse
6/26	Richmond Fed Manufact. Index	2.0	-3.0	Worse
7/24	Richmond Fed Manufact. Index	-1.0	-17.0	Worse
6/15	U. of Michigan Confidence	77.5	74.1	Worse
6/29	U. of Michigan Confidence	74.1	73.2	Worse
7/13	U. of Michigan Confidence	73.5	72.0	Worse
6/1	Unemployment Rate	8.10%	8.20%	Worse
7/6	Unemployment Rate	8.20%	8.20%	Neutral

Given this type of negative momentum, and the worsening conditions both domestically and around the globe, i.e. a slumping housing market, austerity at the state and local levels, a quickly approaching “fiscal cliff,” widespread recession and sovereign risks in Europe, and a slowing China, it’s difficult to imagine how such bad news could result in improving growth for the U.S. in the coming quarters.

Pimco’s Bill Gross cited these quandaries and others recently when he predicted real growth in the U.S. to be about 1.5% over the next decade. On July 16^th, Mr. Gross wrote on Twitter, of all places, the U.S. is “approaching recession when measured by employment, retail sales, investment, and corporate profits.” Speaking of corporate profits, Thomson Reuters reported 65% of companies announcing Q2 earnings thus far have beat estimates, but just 41% of companies have beat revenue targets, suggesting many are cutting expenses to support their margins.

Consumer Prices - The median annualized consumer inflation forecast for Q2 2012 is +1.9%. The median forecast for the next six quarters are +1.5%, +1.75%, +1.6%, +1.9%, 2.1% and 2.2%.

The Consumer Price Index (CPI) was unchanged in June, as falling fuel prices were offset by modestly higher food prices. The core CPI, which excludes food and energy, rose a modest 0.2% for the month.

Year-over-year, headline CPI rose 1.7% while the core rate was up 2.2% for the year.

Even with the benign inflation we’re currently experiencing, food prices are expected to rise as a severe drought grips much of the country and threatens much of this year’s corn crop. According to the New York Times, “the drought is now affecting 88 percent of the corn crop, a staple of processed foods and animal feed as well as the nation’s leading farm export.” The Department of Agriculture said Wednesday that “food prices next year could go up by 3 percent to 4 percent as a result, with beef expected to take the highest jump at 4 percent to 5 percent,” since cattle, pig and chicken feed is heavily dependent on corn as a primary ingredient. Many cattle ranchers have already begun selling much of their herds in response to rising feed prices, which some experts say could mean a drop in prices in the short term as the market is deluged with a surplus of beef, followed by a beef shortage and rising prices down the road.

The Interest Rate Forecast

On July 17^th, Chairman of the Federal Reserve Ben Bernanke gave his Semiannual Monetary Policy Report to Congress. While he made no definitive statements of further easing, and certainly no mention of tightening, there were still a couple of interesting statements/admissions made. At the June FOMC meeting, much of the slowing at the time was considered to be the result of a weather related payback after an exceptionally mild winter pulled spring jobs and consumer spending forward into January and February. But in his testimony, the chairman stated, “Issues related to seasonal adjustment and the unusually warm weather this past winter can account for a part, but only a part, of this loss of momentum in job creation.”

Mr. Bernanke highlighted two specific areas that will continue to restrict expansion of our economy, the European crisis and the U.S. fiscal situation. While U.S. officials will no doubt provide advice to the Europeans on stimulating their economies (many would say the U.S. has given a clear roadmap of what not to do), ultimately it will be up to the leaders in Europe to right their own ship. His second cited headwind is coming from our own domestic fiscal situation. He emphasized the risk to growth this year from the uncertainty ahead of the fiscal cliff, and made a plea to Congress. “The most effective way that the Congress could help to support the economy right now would be to work to address the nation's fiscal challenges in a way that takes into account both the need for long-run sustainability and the fragility of the recovery. Doing so earlier rather than later would help reduce uncertainty and boost household and business confidence.”

2-year Treasury-note - The average 2-year yield forecast for Q3 2012 is 0.30%. The average yield forecast for the next six quarters are 0.37%, 0.47%, 0.59%, 0.71%, 0.80% and 1.05%. The current 2-yr Treasury yield is 0.24%.

	Q3 2012	Q4 2012	Q1 2013	Q2 2013	Q3 2013	Q4 2013	Q1 2014
Current Survey (July 2012)	0.30%	0.37%	0.47%	0.59%	0.71%	0.80%	1.05%
Prior Survey (June 2012)	0.32%	0.40%	0.50%	0.65%	0.75%	0.88%	N/A
One Year Prior (July 2011)	1.80%	2.16%	2.48%	N/A	N/A	N/A	N/A

10-year Treasury-note - The average 10-year yield forecast for Q3 2012 is 1.78%. The average forecast for the next six quarters are 1.94%, 2.11%, 2.30%, 2.51%, 2.67% and 2.91%. The current 10-year yield is 1.51%.

	Q3 2012	Q4 2012	Q1 2013	Q2 2013	Q3 2013	Q4 2013	Q1 2014
Current Survey (July 2012)	1.78%	1.94%	2.11%	2.30%	2.51%	2.67%	2.91%
Prior Survey (June 2012)	1.76%	1.95%	2.16%	2.35%	2.52%	2.68%	2.88%
One Year Prior (July 2011)	4.07%	4.26%	4.44%	N/A	N/A	N/A	N/A

30-year Treasury-bond - The average 30-year yield forecast for Q3 2012 is 2.87%. The average forecast for the next six quarters are 3.03%, 3.19%, 3.37%, 3.54%, 3.70% and 3.96%. The current 30-year yield is 2.59%.

	Q3 2012	Q4 2012	Q1 2013	Q2 2013	Q3 2013	Q4 2013	Q1 2014
Current Survey (July 2012)	2.87%	3.03%	3.19%	3.37%	3.54%	3.70%	3.96%
Prior Survey (June 2012)	2.86%	3.01%	3.22%	3.39%	3.53%	3.68%	3.86%
One Year Prior (July 2011)	5.04%	5.20%	5.34%	N/A	N/A	N/A	N/A

MARKET INDICATIONS AS OF 2:10 P.M. CENTRAL TIME

DOW	Up 213 to 13,101
NASDAQ	Up 65 to 2,958
S&P 500	Up 27 to 1,382
1-Yr T-bill	current yield 0.17%; opening yield 0.16%
2-Yr T-note	current yield 0.24%; opening yield 0.23%
5-Yr T-note	current yield 0.65%; opening yield 0.62%
10-Yr T-note	current yield 1.55%; opening yield 1.48%
30-Yr T-bond	current yield 2.63%; opening yield 2.55%

YIELDS DROP TO RECORD LOWS (AGAIN) ON WEAK RETAIL SALES

Monday, July 16, 2012

Shoppers Retrench
The bond market rallied, sending yields to fresh lows, while stock prices fell after the Commerce Department announced an unexpectedly poor retail sales number for the month of June. The 0.5% month-over-month decline was well short of the 0.2% median forecasted advance, and below even the most pessimistic of the Bloomberg forecasts. Previously reported retail sales for April and May were negative as well, down 0.5% and 0.2% respectively. For the entire quarter, retail sales declined by an annualized 0.8%. In the previous quarter, sales had risen by an annualized 6.7%. Some of this volatility is a result of skewed seasonal adjustments as a result of unseasonably mild winter weather, but few expected the second quarter snapback to be this dramatic.

The last time retail sales were negative for three straight months was October 2008 through December 2008, during the deepest point of the recession. For this reason, the stock markets took a dive, with the DOW down by 87 points in early trading. Bonds rallied with both five- and 10-year Treasuries touching new yield lows. Stocks have subsequently recovered most of their earlier losses. The thinking here is that Fed officials will see the economy slowing down and announce another round of quantitative easing. If this were to happen, Bernanke could introduce the idea as soon as this week at his semi-annual Congressional testimony.

Having said that, it’s far from clear that QE3 would do much to fix the economy. One thing it should do is provide a dose of seltzer to equity markets trying to digest sour quarterly earnings, while keeping downward pressure on yields here in the U.S.

Morgan Stanley reported this morning that 2-year government bonds in Germany, Switzerland, Denmark, Austria and Netherlands are all trading at negative yields.

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

DOW	Down 43 to 12,733
NASDAQ	Down 10 to 2,899
S&P 500	Down 2 to 1,350
1-Yr T-bill	current yield 0.16%; opening yield 0.17%
2-Yr T-note	current yield 0.22%; opening yield 0.24%
5-Yr T-note	current yield 0.59%; opening yield 0.62%
10-Yr T-note	current yield 1.46%; opening yield 1.49%
30-Yr T-bond	current yield 2.56%; opening yield 2.57%

ONE MORE DISAPPOINTING LABOR NUMBER

Friday, July 6, 2012

SECORD QUARTER JOB GROWTH FLOPS

Nonfarm payrolls rose by just 80,000 during the month of June, well below the median Bloomberg forecast for 100,000. For the three-month period ending in June, company payroll gains averaged just 75,000. This was the slowest quarterly growth rate since the third quarter of 2010, and a significant decline from the 225,000 average pace during the first quarter of 2012. Seasonal adjustments, and unusually mild winter weather probably distorted the data from month-to-month, but there’s little question the pace of hiring is below the hopes and expectations of Fed officials.

The Bureau of Labor Statistics reported job gains in professional and business services (+47k), health care (+13k), manufacturing (+11k), management and technical consulting (+9k), and computer systems design and related services (+7k). Jobs were lost in the government (-4k) and retail (-5k) sectors.

The total number of Americans officially counted as being unemployed remained at 12.7 million, while the unemployment rate held steady at 8.2%. Unemployment has now been above the 8% mark since February 2009, the longest period since recordkeeping began in this series in 1948. Widespread joblessness is a problem for the current administration. According to U.S. News, no sitting president has ever won reelection with an unemployment rate above 7.2%. Reagan was reelected in 1984 with unemployment at 7.2%.

The U6 unemployment rate rose from 14.8% to 14.9%. This broader measure includes Americans who have not actively searched for work in the past four weeks but would still like a job, along with “discouraged,” involuntary part-time workers …and basically everyone who would accept a full-time position if one were offered. The labor participation rate remained at 63.8%, and the percentage of the U.S. population holding jobs held steady at 58.6%.

One positive and unexpected number was average hourly earnings, which rose by 0.03% to $23.50 bringing the year-over-year increase up from 1.8% to 2.0%. Another positive, albeit minor note, was an increase in the average workweek from 34.4 to 34.5 hours.

There is no question that this is a labor weak report. The bigger question is whether or not hiring will pick up in the coming months. Most economists are calling for slight increases in job gains for the remainder of the year.

A COORDINATED GLOBAL EASING

The European Central Bank (ECB) and the People’s Bank of China have both cut key interest rates within the last 24 hours, while the Bank of England increased its asset purchase program. The ECB, responding to record high 11.1% unemployment, eased by 25 basis points from 1.00% to 0.75%, bringing its benchmark rate to a new record low. These coordinated monetary policy moves, along with the weak U.S. employment report have fueled speculation that U.S. Central Bank could announce another round of quantitative easing, perhaps as soon as the two-day FOMC meeting scheduled to begin on July 31^st. In fact, Bloomberg News wrote this morning that the June employment report could “seal the deal on Fed action.”

In other news, the ISM nonmanufacturing (service sector) index fell to 52.1 in June from 53.7 in May. The Bloomberg median forecast was 53.0. Although this index shows that the service sector is still expanding (any index number above 50 signals expansion), it has slowed considerably in the spring months.

Freddie Mac reported a 3.62% average 30-year mortgage rate for the week ending July 5^th. It was the 10^th week out of the past 11 that a new low was either matched or set.

The Spanish 10-year note yield rose back above 7% this morning, signaling that the financial markets have not validated the progress made at last week’s European summit in Brussels. The German 2-year note yield again dipped below zero this morning as worried investors flee problem markets for safer harbors.

U.S. yields are lower this morning. Stocks are taking a beating.

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

DOW	DOWN 176 to 12,720
NASDAQ	DOWN 47 to 2,929
S&P 500	DOWN 16 to 1,345
1-Yr T-bill	current yield 0.19%; opening yield 0.19%
2-Yr T-note	current yield 0.27%; opening yield 0.29%
5-Yr T-note	current yield 0.64%; opening yield 0.67%
10-Yr T-note	current yield 1.54%; opening yield 1.60%
30-Yr T-bond	current yield 2.66%; opening yield 2.72%

MARKET YIELDS FALL AS MANUFACTURING OUTLOOK DIMS

Monday, July 2, 2012

PURCHASING MANAGERS GROW PESSIMISTIC

The Institute for Supply Management (ISM) manufacturing survey unexpectedly dropped below 50 in June, the first time during the three-year recovery cycle that this closely-watched private sector index has registered a contraction. The 49.7 reading was worse than the most pessimistic forecast from the Bloomberg survey of economists, and well below the 53.5 May number. For comparison, the manufacturing index averaged 57.3 in 2010 and 55.2 in 2011.

Within the June composite, the new orders index plunged from 60.1 to 47.8, exports from 53.5 to 47.5, and production from 55.6 to 51. The employment index remained somewhat of a bright spot as it decreased only slightly from 56.9 to 56.3. This suggests that factory managers expect to increase hiring in the coming months …although if new orders do fall significantly, hiring may be postponed. On the inflation front, the prices paid index dropped from 47.5 to 37, indicating that purchasing managers are experiencing much lower input prices; not altogether a bad thing.

This drop in manufacturing outlook reflects the ongoing global slowdown, and perhaps increased pessimism regarding the U.S. “fiscal cliff” that looms large at the end of the year.

Immediately following the news release, stock prices took a dip and bond prices rallied, pushing yields lower.

The bottom line is that the global economy is slowing and this will negatively affect U.S. companies. The Wall Street Journal reported last week that half of S&P 500 operating profits come from overseas markets, and approximately half of these come from Europe. The Fed has promised to provide “further action as appropriate” which suggests that monetary policy will remain highly accommodative in an attempt to provide ample liquidity to the markets.

After the Independence Day holiday, the markets will brace for Friday’s release of the June employment report. Early indications are for an increase of just 90,000 in nonfarm payrolls with the unemployment rate remaining at 8.2%.

MARKET INDICATIONS AS OF 11:54 A.M. CENTRAL TIME

DOW	DOWN 40 points to 12,839
NASDAQ	Up 4 to 2,939
S&P 500	DOWN 3 to 1,354
1-Yr T-bill	current yield 0.19%; opening yield 0.20%
2-Yr T-note	current yield 0.29%; opening yield 0.30%
5-Yr T-note	current yield 0.66%; opening yield 0.72%
10-Yr T-note	current yield 1.57%; opening yield 1.65%
30-Yr T-bond	current yield 2.68%; opening yield 2.75%

THE JUNE 2012 BLOOMBERG INTEREST RATE AND ECONOMIC FORECASTS

Tuesday, June 26, 2012

From June 1 through June 5, 2012, Bloomberg News surveyed 71 top economists for their most recent opinions on the U.S. economy and interest rates. The following are summaries of their responses:

The Economic Forecast

Unemployment Rate - The median forecast for Q2 2012 unemployment is 8.2%. The median forecast for the next six quarters are 8.1%, 8.0%, 7.9%, 7.8%, 7.7% and 7.6%.

The U.S. employment picture took another hit in May, as payrolls climbed by a meager 69K, and revisions to April and March erased another 49K jobs. The monthly payroll data peaked this year in January at 275K and has fallen each month since. To put May’s number into further perspective, the average monthly gain in the first quarter was 226K, while May’s median estimate of economists surveyed prior the report was 150K.

The household survey of employment, from which the unemployment rate is derived, didn’t fare much better. The number of people unemployed grew by 220K to 12.7 million, while the unemployment rate increased to 8.2% from 8.1%. Those unemployed for 27 weeks or longer jumped 310K to 5.1 million, or 42.8% of unemployed workers. Workers employed part-time for economic reasons rose from 7.8 to 8.1 million. The U-6 measure of unemployment (total unemployed, plus all marginally attached workers, plus part-time workers for economic reasons) rose to 14.8% after holding steady at 14.5% in the prior two months.

Recent deterioration in some key employment data points to a continuation of a weak labor market. The 4-week average for initial claims for unemployment insurance has risen to 386K, a six month high and a noticeable increase from May’s 375K average. The employment components within both the Manufacturing and Services ISM surveys fell from the previous month’s readings, a signal that employers aren’t yet willing to add to their headcounts. And, according to the job opening and labor turnover survey (JOLTS), the number of available open positions decreased in the latest month by the most in four years, dropping by 325K to 3.42 million.

Real GDP (annualized economic growth) - The median GDP growth forecast for Q2 2012 is +2.1%. The median forecast for the next six quarters are +2.3%, +2.5%, +2.1%, +2.4%, +2.8% and +2.8%.

With a bleak labor picture and wage growth stagnating or falling in many cases, consumers are curtailing purchases. Retail Sales fell in May by 0.2%, matching April’s contraction, marking the first back-to-back decline in two years. This weakening has prompted many economists to lower their GDP forecasts.

Firm	Previous Estimate	Current Estimate
Morgan Stanley	2.0%	1.8%
BofA Merrill Lynch	1.9%	1.8%
UBS	2.0%	1.5%

Furthermore, manufacturing activity appears to be slowing as well. Three of the four Federal Reserve Banks reporting on manufacturing for their regions indicated either a considerable contraction or slowdown. The Richmond Fed showed a contraction of -3, while the Philly Fed was a staggering -16.6. The Empire Manufacturing survey, the New York Fed’s report, was above zero, but fell to +2.29 in June from May’s +17.09. The only region, thus far, to not contract or report a significant decline was the Dallas Fed at +5.8. Numbers above zero indicate growth while those below suggest contraction.

Consumer Prices - The median annualized consumer inflation forecast for Q2 2012 is +2.1%. The median forecast for the next six quarters are +1.9%, +2.0%, +1.85%, +1.9%, 2.1% and 2.1%.

The Consumer Price Index (CPI) was lower in May, as energy costs decreased 4.3% during the month and gasoline prices plummeted by 6.8%, bringing the national average for a gallon of gas to $3.39.

Year-over-year, CPI fell to 1.7% from 2.3% the month before. Core consumer prices, which exclude food and energy, edged up 0.2% in April and 2.3% on an annual basis.

The Interest Rate Forecast

The Federal Reserve announced they would extend Operation Twist through the end of the year, selling or rolling over $267 billion of short-term holdings into longer-term Treasuries. Also, their statement suggested that, "The Committee is prepared to take further action as appropriate to promote a stronger economic recovery in a context of price stability." A Reuters poll taken after the FOMC meeting showed that almost 60% of the 17 Primary Dealers expect a third round of quantitative easing, or QE3, later this year. Ten of the dealers expect the Fed will act before year-end, while four believe the Fed will act in 2013.

As expected, the committee left the fed funds rate at zero to 0.25% and held its expectation for a rate hike to late 2014. BofA Merrill Lynch believes however, in light of the weakening described above, that the Fed will not move rates higher until mid-2015 at the earliest.

2-year Treasury-note - The average 2-year yield forecast for Q2 2012 is 0.28%. The average yield forecast for the next six quarters are 0.32%, 0.40%, 0.50%, 0.65%, 0.75% and 0.88%. The current 2-yr Treasury yield is 0.30%.

	Q2 2012	Q3 2012	Q4 2012	Q1 2013	Q2 2013	Q3 2013	Q4 2013
Current Survey (June 2012)	0.28%	0.32%	0.40%	0.50%	0.65%	0.75%	0.88%
Prior Survey (May 2012)	0.31%	0.36%	0.44%	0.56%	0.71%	0.84%	0.97%
One Year Prior (June 2011)	1.62%	1.97%	2.28%	N/A	N/A	N/A	N/A

10-year Treasury-note - The average 10-year yield forecast for Q2 2012 is 1.76%. The average forecast for the next six quarters are 1.95%, 2.16%, 2.35%, 2.52%, 2.68% and 2.88%. The current 10-year yield is 1.62%.

	Q2 2012	Q3 2012	Q4 2012	Q1 2013	Q2 2013	Q3 2013	Q4 2013
Current Survey (June 2012)	1.76%	1.95%	2.16%	2.35%	2.52%	2.68%	2.88%
Prior Survey (May 2012)	2.15%	2.31%	2.50%	2.65%	2.82%	2.94%	3.10%
One Year Prior (June 2011)	3.97%	4.16%	4.35%	N/A	N/A	N/A	N/A

30-year Treasury-bond - The average 30-year yield forecast for Q2 2012 is 2.86%. The average forecast for the next six quarters are 3.01%, 3.22%, 3.39%, 3.53%, 3.68% and 3.86%. The current 30-year yield is 2.69%.

	Q2 2012	Q3 2012	Q4 2012	Q1 2013	Q2 2013	Q3 2013	Q4 2013
Current Survey (June 2012)	2.86%	3.01%	3.22%	3.39%	3.53%	3.68%	3.86%
Prior Survey (May 2012)	3.21%	3.35%	3.48%	3.63%	3.76%	3.89%	4.03%
One Year Prior (June 2011)	5.02%	5.18%	5.33%	N/A	N/A	N/A	N/A

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

DOW	Up 32 to 12,534
NASDAQ	Up 18 to 2,854
S&P 500	Unchanged at 1,315
1-Yr T-bill	current yield 0.18%; opening yield 0.17%
2-Yr T-note	current yield 0.30%; opening yield 0.30%
5-Yr T-note	current yield 0.72%; opening yield 0.73%
10-Yr T-note	current yield 1.62%; opening yield 1.63%
30-Yr T-bond	current yield 2.70%; opening yield 2.70%

FOMC EXTENDS OPERATION TWIST

Wednesday, June 20, 2012

MINOR U.S. DATA, GREECE AND THE EURO

There hasn’t been much in the way of economic data this week with the only major release thus far being housing starts and building permits. Housing starts fell in May, coming in below forecasts at 708k annual units due mostly to a decline in volatile multi-family starts. Data for April was revised higher, however, so the two months basically offset each other. Building permits were a mirror image of starts, with May data rising while April was revised lower. Again, the two basically wash each other out. One encouraging sign is that single family starts increased 3.2% in May to a 516k annual rate, indicating some improvement in single family construction. Unfortunately, this pace is well below the pre-bubble trend of 1.2 million units and nowhere near the 1.8 million peak reached during the bubble.

Elections in Greece last weekend resulted in a victory for the New Democracy party and will reportedly lead to the formation of a coalition government that wants to stay in the Euro. The news has brought some relief to worried investors, and importantly, yields on Spanish and Italian government bonds have fallen in recent days. The yield on Spain’s 10-year bonds, which reached 7.07% on Monday, has fallen to 6.67% today. Meanwhile, Italy’s 10-year has fallen from 6.19% to 5.75%. Don’t be fooled into thinking the Euro-zone’s problems have been solved. They haven’t, and much work remains to be done.

FOMC EXTENDS OPERATION TWIST

The big news in the U.S. today is this afternoon’s announcement on monetary policy from the Fed’s FOMC. Stocks have rallied in recent days largely on speculation that the Fed would announce additional easing measures; either an extension of Operation Twist, another round of QE, or some other action. Heading into the meeting, economists were split on whether the Fed would act, with the consensus expecting an extension of Operation Twist.

The FOMC statement was just released and the consensus got it right. The Fed did indeed announce an extension of Operation Twist, whereby the Fed sells securities with maturities of 3 years or less and invests the proceeds in securities with maturities ranging from 6 to 30 years in an effort to further reduce long term interest rates and stimulate the economy. The original $400 billion program had been set to expire this month, but will now be extended through the end of this year and expanded by approximately $267 billion. The Fed acknowledged the recent slowdown in economic data, noting that “growth in employment has slowed in recent months,” and that “inflation has declined.” The FOMC reiterated its belief that conditions were “likely to warrant exceptionally low levels for the federal funds rate at least through late 2014,” and went on to say, “The Committee is prepared to take further action as appropriate to promote a stronger economic recovery and sustained improvement in labor market conditions in a context of price stability.” Later this afternoon the Fed will release their official economic forecasts and Chairman Bernanke will hold a press conference to discuss economic conditions and the monetary policy response.

Both stock and bonds markets have bounced around following the release of the FOMC statement but seem to be settling back in near pre-announcement levels as the news was largely in line with expectations, although there seems to be some disappointment that the Fed is not doing even more.

MARKET INDICATIONS AS OF 12:10 P.M. CENTRAL TIME

DOW	Up 28 to 12,865
NASDAQ	Up 11 to 2,941
S&P 500	Down 4 to 1,354
1-Yr T-bill	current yield 0.175%; opening yield 0.17%
2-Yr T-note	current yield 0.31%; opening yield 0.29%
5-Yr T-note	current yield 0.76%; opening yield 0.70%
10-Yr T-note	current yield 1.67%; opening yield 1.62%
30-Yr T-bond	current yield 2.77%; opening yield 2.73%

PRODUCER INFLATION RECEDES AS RETAIL SALES SLUMP

Wednesday, June 13, 2012

PRODUCER INFLATION CONTINUES TO FALL

The Producer Price Index (PPI), a measure of what U.S. companies pay for materials, fell for the second month in a row. The 1.0% decline was the biggest in nearly three years, and exceeded the median Bloomberg forecast for a lesser 0.6% drop. A 4.3% decrease in the price of energy was the primary driver, although an unexpected 0.6% decline in food prices was another reason overall prices fell. The core rate which excludes both food and energy prices, rose at a benign 0.2% rate, exactly matching forecasts. On a year-over-year basis, overall PPI is now rising at a 0.7% rate. Just eight months earlier, year-over-year PPI was 7.0%, a pace that prompted a number of Fed critics to call for higher interest rates to combat inflationary pressures.

The reason for the abrupt decline in producer prices has much to do with the global slowdown which has tempered demand for raw materials. In theory, if materials prices are lower, producers should be able to hold down overall production costs, and offer consumer goods at lower prices while still earning profits. From the Fed’s perspective, if inflation is benign, they will be able to continue their super-accommodative monetary policy stance.

The more important consumer prices index (CPI) is scheduled for released tomorrow.

CONSUMER SPENDING DOWN AGAIN

Like PPI, retail sales fell for the second month in a row. The 0.2% decline equaled expectations, but downward revisions to prior months, made the data appear even weaker. April sales, originally reported up a slight 0.1%, were revised to show a 0.2% drop. March sales, hailed as a strong 0.8% gain when originally announced, have now been lowered twice to a much less impressive 0.4% increase. Eight of the 13 categories registered declines in May. The auto sales component within this morning’s number actually rose by 0.8%. This seems odd when compared to the 13.7 million annualized car and light truck sales previously reported for May; a sales number that had represented the low mark for 2012.

The bottom line on retail sales is the U.S. economy seems to be slowing, and with job gains dissipating from the solid pace earlier in the year, consumers are reluctant to spend. Following this morning’s data releases, analysts are quickly revising second quarter GDP forecasts. Morgan Stanley has already lowered its Q2 GDP from 2.0% to 1.8%.

In other news, mortgage applications jumped 18% last week as both new purchase and refinancings benefited from record low mortgage lending rates.

Equities are down in early trading reflecting market disappointment in the data. Bond market reaction has been muted with only small movement in bond yields.

There is still little reason to expect the Fed will raise short-term rates before the end of 2014.

MARKET INDICATIONS AS OF 9:05 A.M. CENTRAL TIME

DOW	DOWN 56 to 12,518
NASDAQ	DOWN 12 to 2,831
S&P 500	DOWN 10 to 1,310
1-Yr T-bill	current yield 0.17%; opening yield 0.17%
2-Yr T-note	current yield 0.29%; opening yield 0.29%
5-Yr T-note	current yield 0.72%; opening yield 0.74%
10-Yr T-note	current yield 1.64%; opening yield 1.66%
30-Yr T-bond	current yield 2.75%; opening yield 2.77%

SOME THOUGHTS ON LOW GOVERNMENT YIELDS

Tuesday, June 5, 2012

RECORD LOWS FOR THE SAFE HARBORS

The 10-year Treasury yield climbed to 1.56% early this afternoon. A week ago, this level would have represented a historical low. Today, it’s 11 basis points above Friday’s close of 1.45%. It’s tough to fathom the idea that investors are snapping up the massive supply of Treasury securities at record lows, but after a while, resistance becomes futile. A Wall Street Journal article published last Friday suggested that “after denial, anger, bargaining and depression, investors seem ready to enter the final stage of grief over low yields: acceptance. With the situation in Europe worsening, investors' attitude toward record-low Treasury yields is quickly moving to a realization that, as low as they are, yields on Uncle Sam's bonds could fall further."

Illustrating just how pervasive the bull market for bonds has been, the same article mentioned that U.S. Treasuries with a maturity of 10-years or more had returned 61% since 2007, compared to a 1.4% drop in the S&P 500 during the same period. But the “flight to quality” doesn’t just include U.S. bonds. Government bonds issued by Japan, Switzerland, Sweden, Denmark and Germany are yielding even lower. Late last week, German 10-year bond yields dropped below 1.20% for the first time ever, while the yield on two-year bonds fell fractionally below zero as European investors sought out their own safe harbors. The most striking point on the German curve may be the four-year, which traded as low as 0.16%. In response, Credit Suisse wrote that “Investors are buying a German insurance policy when they buy Bunds, and insurance policies always come with a fee, not a coupon.”

SERVICE SECTOR EXPANDING AT A SLOWER PACE

There hasn’t been much economic data to report so far this week. This morning, the ISM non-manufacturing (service sector) index rose very slightly in May from a four-month low of 53.5 to 53.7. The service sector index is now significantly below the 15-month high of 57.3, although it’s still signaling moderate expansion since it remains above the key 50 level. Within the May index, new orders fell from 56.5 to 53 and employment tumbled from 54.2 to 50.8. A similar European Purchasing Managers Index (PMI) also rose slightly in May, but the 0.2 increase brought the index up to just 46.7, a level that still indicates contraction in the troubled region.

One really positive aspect to the global slowdown, at least as far as the consumer is concerned, is the falling price of oil and gasoline. WTI crude fell as low as $81.21 per barrel on Monday. At the beginning of May, it was above $106. The Energy Department reported this morning that the average nationwide price for a gallon of gasoline had fallen for the 9^th straight week. The most recent price of $3.61 is nearly 40 cents below the 2012 peak.

MARKET INDICATIONS AS OF 3:15 P.M. CENTRAL TIME

DOW	UP 26 to 12,127
NASDAQ	UP 18 to 2,778
S&P 500	UP 11 to 1,284
1-Yr T-bill	current yield 0.18%; opening yield 0.17%
2-Yr T-note	current yield 0.25%; opening yield 0.25%
5-Yr T-note	current yield 0.68%; opening yield 0.67%
10-Yr T-note	current yield 1.57%; opening yield 1.53%
30-Yr T-bond	current yield 2.64%; opening yield 2.57%

ABYSMAL JOBS REPORT HAMMERS YIELDS TO NEW LOWS

Friday, June 1, 2012

MAY PAYROLL DATA WORSE THAN ANTICIPATED

U.S. businesses reported just 69,000 new jobs were added to nonfarm payrolls during the month of May. The most pessimistic forecast among economists in the Bloomberg News Survey had been for a gain of 75k, while the median forecast was 150k. The prior two month’s payroll gains were revised downward with March lowered from +154,000 to +143,000 and April from +115,000 to +77,000.

The number of persons officially unemployed rose from 12.5 to 12.7 million, and the number out of work for 27 weeks or more rose from 5.1 million to 5.4 million, representing 42.8% of those unemployed. Job gains in May were concentrated in healthcare (+33k), transportation and warehousing (+36k) and manufacturing (+12k). Jobs were lost in construction (-28k), accounting and bookkeeping (-14k) and government (-13k).

The unemployment rate rose from 8.1% to 8.2%. Believe it or not, this was the first increase since last June. Part of the reason for the rise in unemployment is that the labor force participation rate (the percentage of working age people in the labor force) rose by 0.2 percentage points to 63.8%. There are simply more people looking for work.

The number of people employed “part-time for economic reasons” rose from 7.9 million to 8.1 million. This huge number of involuntary part-time workers is another reason why recessionary job losses are slow in being recovered - employers typically increase hours before hiring new workers.

The U6 measure of unemployment rose from 14.5% to 14.8%, the first increase since September 2011. This larger number includes Americans who have not actively searched for work in the past four weeks but would still like a job, along with “discouraged,” involuntary part-time workers …and basically everyone who would accept a full-time position if one were offered.

The May labor report was the ugliest in a year. There are legitimate reasons for employers to be hesitant, not the least of which is a widespread global slowdown. The most recent Eurozone unemployment rate is 11.1%, a new record high. According to Reuter’s, Spain is the most recent European country to fall into recession joining Belgium, Cyprus, the Czech Republic, Denmark, Greece, Italy, the Netherlands, Ireland, Portugal, Slovenia and the United Kingdom.

In other news, the ISM factory survey for U.S. manufacturers declined from 54.8 to 53.5 in May, still above the 50 mark which divides expansion from contraction, but recent purchasing managers indexes (PMI) across the globe signal a bleaker outlook. China’s PMI fell from 53.3 to 50.4 in April, while the UK PMI plunged from 50.5 to 45.9, and the Eurozone PMI lingered in contraction territory at 45.1.

Today’s weak payroll data has already sparked renewed talk of another round of quantitative easing by the Fed, and will probably snuff out claims by hawkish Fed members that the FOMC should raise rates prior to late 2014. Treasury yields have hit new lows with the 10-year setting a record for the third straight day and the 30-year reaching its historical low point as money continues to flow into the safe harbor of U.S. government bonds. In other flight-to-quality news, Bloomberg News reported the two-year German government bond yield traded at 0.00% earlier this week.

Stocks have dropped from the opening bell. The DOW has now shed more than 1000 points in the past month.

MARKET INDICATIONS AS OF 9:33 A.M. CENTRAL TIME

DOW	DOWN 212 to 12,181
NASDAQ	DOWN 58 to 2,769
S&P 500	DOWN 22 to 1,288
1-Yr T-bill	current yield 0.17%; opening yield 0.18%
2-Yr T-note	current yield 0.25%; opening yield 0.26%
5-Yr T-note	current yield 0.61%; opening yield 0.66%
10-Yr T-note	current yield 1.47%; opening yield 1.56%
30-Yr T-bond	current yield 2.56%; opening yield 2.64%

THE MAY 2012 BLOOMBERG INTEREST RATE AND ECONOMIC SURVEYS

Monday, May 29, 2012

From May 4 through May 9, 2012, Bloomberg News surveyed 77 top economists for their most recent opinions on the U.S. economy and interest rates. The following are summaries of their responses:

The Economic Forecast

Unemployment Rate - The median forecast for Q2 2012 unemployment is 8.1%. The median forecast for the next six quarters are 8.1%, 8.0%, 7.9%, 7.8%, 7.7% and 7.6%.

April’s employment report proved to be a disappointment. Nonfarm payrolls grew by just 115K against expectations of +160K. On the bright side, March and February were revised higher by 53K, and there is a good chance April’s will be too. Among the industries adding to their payrolls in April were professional and business services, retail, health care, leisure and hospitality, and manufacturing, but the federal and local governments continued to trim workers. As a result, private payrolls advanced by 130K, considerably below expectations of +165K.

The household survey of employment, from which the unemployment rate is derived, didn’t fare much better. While the unemployment rate did fall by 0.1% to 8.1%, the survey indicated that 169K fewer people were employed; this following a drop of 31K in March. The number of discouraged workers in April, 968K, was virtually unchanged from the prior year, but was higher month-over-month by 103K, the first monthly increase since January 2012. The labor force participation rate declined 0.2 percentage points to 63.6, the lowest since late 1981.

According to a Business Week story, economists at JPMorgan Chase and Barclays believe we may see the unemployment rate tick down further over the upcoming months as nearly 370K people recently lost their emergency-extended unemployment benefits. The drop, according to those economists, would manifest itself in a couple ways: those former recipients may decide to accept a lower paying job that didn’t make economic sense while receiving benefits, while others may simply drop out of the labor force all together. The result of both actions would apply downward pressure on the unemployment rate. On the flip side though, if these people enter the labor market and are unable to find work, low paying or otherwise, the rate could move slightly higher. April’s employment report counted 12.5 million people as unemployed, all vying for a scant 3.7 million jobs (results of the March 2012 JOLT Survey), indicating a ratio of roughly 3.4:1.

Real GDP (annualized economic growth) - The median GDP growth forecast for Q2 2012 is +2.2%. The median forecast for the next six quarters are +2.4%, +2.5%, +2.2%, +2.5%, +2.8% and +3.0%.

Faced with an immense amount of uncertainty, companies seemed reluctant to make long-term investments in April. Case in point, orders for durable goods (items intended to last for three years or more) rose only 0.2%, with core capital goods orders (all orders less defense and aircraft) down 1.9%, the third drop in the first four months of the year. Core capital goods shipments, which contribute directly to GDP, were lower by 1.4%, suggesting weakness in Q1 and to the start of Q2.

After a respectable 0.7% increase in March, April’s retail sales moderated considerably, growing by only 0.1% during the month. The decline was due in large part to early spring shopping sprees brought about by a very mild winter and early arrival of spring. In essence, sales that ordinarily occur late in the year were pulled forward to February and March. By the time April rolled around, most spring purchases had already been made.

Based primarily upon the deceleration in business investment, as seen in the durable goods orders, a couple of firms have lowered their estimates for GDP for the first two quarters of the year. B of A/Merrill Lynch revised Q2 down to 1.9% from 2.0% and suggested Q1 would be revised lower to 1.8% from 2.2%, as reported by the Commerce Dept. Morgan Stanley was less bearish on Q2, forecasting 2.4% growth versus 2.7% previously, but they too expect a downward revision for Q1 to 1.9%.

The second estimate of first quarter GDP is to be released on May 31^st.

Consumer Prices - The median annualized consumer inflation forecast for Q2 2012 is +2.3%. The median forecast for the next six quarters are +2.0%, +2.2%, +2.1%, +2.1%, 2.1% and 2.2%.

The Consumer Price Index (CPI) was unchanged in April, as pump prices leveled off and began to fall ever so slightly. Year-over-year, CPI slowed to 2.3% from 2.7% the month before. Core consumer prices, which exclude food and energy, edged up 0.2% in April and 2.3% on an annual basis. The core rates were influenced by rising housing rental rates and increases in both new and used car prices.

With employment virtually stagnant, wages flat, GDP anything but robust and inflation subdued, the Fed will feel little pressure to deviate from its current zero interest rate policy (ZIRP).

The Interest Rate Forecast

On May 17th, the Senate confirmed Jeremy Stein and Jay Powell as members of the Federal Reserve Board, fully staffing the Board to seven members for the first time since April 2006. The new members will be eligible to vote at the next FOMC meeting on June 19/20. Messrs Stein and Powell are widely expected to vote in favor of a continuation of the Fed’s current zero interest rate policy and its broader, very accommodative, monetary policy, i.e. policies such as Operation Twist and asset purchases, should additional easing be deemed necessary.

2-year Treasury-note - The average 2-year yield forecast for Q2 2012 is 0.31%. The average yield forecast for the next six quarters are 0.36%, 0.44%, 0.56%, 0.71%, 0.84% and 0.97%. The current 2-yr Treasury yield is 0.285%.

	Q2 2012	Q3 2012	Q4 2012	Q1 2013	Q2 2013	Q3 2013	Q4 2013
Current Survey (May 2012)	0.31%	0.36%	0.44%	0.56%	0.71%	0.84%	0.97%
Prior Survey (April 2012)	0.35%	0.41%	0.48%	0.58%	0.73%	0.86%	1.01%
Prior Survey (May 2011)	1.94%	2.31%	2.57%	N/A	N/A	N/A	N/A

10-year Treasury-note - The average 10-year yield forecast for Q2 2012 is 2.15%. The average forecast for the next six quarters are 2.31%, 2.50%, 2.65%, 2.82%, 2.94% and 3.10%. The current 10-year yield is 1.72%.

	Q2 2012	Q3 2012	Q4 2012	Q1 2013	Q2 2013	Q3 2013	Q4 2013
Current Survey (May 2012)	2.15%	2.31%	2.50%	2.65%	2.82%	2.94%	3.10%
Prior Survey (April 2012)	2.26%	2.42%	2.57%	2.70%	2.85%	3.00%	3.13%
Prior Survey (May 2011)	4.16%	4.33%	4.48%	N/A	N/A	N/A	N/A

30-year Treasury-bond - The average 30-year yield forecast for Q2 2012 is 3.21%. The average forecast for the next six quarters are 3.35%, 3.48%, 3.63%, 3.76%, 3.89% and 4.03%. The current 30-year yield is 2.83%.

	Q2 2012	Q3 2012	Q4 2012	Q1 2013	Q2 2013	Q3 2013	Q4 2013
Current Survey (May 2012)	3.21%	3.35%	3.48%	3.63%	3.76%	3.89%	4.03%
Prior Survey (April 2012)	3.35%	3.49%	3.61%	3.76%	3.88%	4.02%	4.13%
Prior Survey (May 2011)	5.08%	5.17%	5.28%	N/A	N/A	N/A	N/A

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

DOW	Up 79 to 12,534
NASDAQ	Up 22 to 2,859
S&P 500	Up 10 to 1,325
1-Yr T-bill	current yield 0.18%; opening yield 0.188%
2-Yr T-note	current yield 0.285%; opening yield 0.285%
5-Yr T-note	current yield 0.75%; opening yield 0.75%
10-Yr T-note	current yield 1.72%; opening yield 1.73%
30-Yr T-bond	current yield 2.83%; opening yield 2.84%

UPDATE ON FANNIE MAE AND FREDDIE MAC

Monday, May 21, 2012

GOVERNMENT SUPPORT DOES NOT EXPIRE

We have received a number of questions recently regarding the U.S. government support for Fannie Mae and Freddie Mac. It seems that many people mistakenly believe the support will expire at the end of 2012. As we wrote in a September 2011 update, the primary mechanism by which the government supports Fannie Mae and Freddie Mac is through the Senior Preferred Stock Purchase Agreements (SPSPA). These agreements are binding legal obligations which require the U.S. Treasury to keep the two GSEs solvent by injecting capital in exchange for preferred stock. They do not have a defined termination date. The Federal Housing Finance Agency has stated, ”The SPAs effectively provide a very long-term federal guarantee to existing and future debt holders.” (FHFA Mortgage Market Note 09-1, Feb-18-2009)

The original September 2008 agreements provided for a maximum commitment of $100 billion for each of the two GSEs. This amount was later increased to $200 billion for each. Finally, in December 2009, the agreements were amended yet again to allow for an unlimited commitment during the period between January 1, 2010 and December 31, 2012. Any draws on Treasury support during this time frame do not count against the $200 billion limit. While this unlimited commitment will expire at year end, the preferred stock purchase agreements remain in full effect and will merely revert back to the $200 billion maximum amount. The table below outlines the amounts that have been drawn to date and the amounts that will remain available after December 31, 2012.


	FANNIE MAE				FREDDIE MAC				COMBINED
	Beginning Support Available	Draws Taken	Remaining Support Available		Beginning Support Available	Draws Taken	Remaining Support Available		Beginning Support Available	Draws Taken	Remaining Support Available

2008	$200.0	$15.2	$184.8	2008	$200.0	$44.6	$155.4	2008	$400.0	$59.8	$340.2
2009	$184.8	$60.0	$124.8	2009	$155.4	$6.1	$149.3	2009	$340.2	$66.1	$274.1
2010	Unlimited	$15.0	Unlimited	2010	Unlimited	$13.0	Unlimited	2010	Unlimited	$28.0	Unlimited
2011	Unlimited	$25.9	Unlimited	2011	Unlimited	$7.6	Unlimited	2011	Unlimited	$33.6	Unlimited
2012	Unlimited	$0.0	$124.8	2012	Unlimited	$0.0	$149.3	2012	Unlimited	$0.0	$274.1
2013+	$124.8	--		2013+	$149.3	--		2013+	$274.1	--

		$116.1	Total Draws thru 3/31/12			$71.3	Total Draws thru 3/31/12			$187.5

* All figures are in billions of dollars

You will note that after 12/31/2012, Fannie Mae can draw an additional $124.8 billion, while Freddie Mac can draw an additional $149.3 billion. Both figures exceed the total amounts drawn to date. Looking at the two companies combined, the $274.1 billion still available after 12/31/2012 greatly exceeds the $187.5 billion in draws taken thus far. In short, even after 12/31/2012, there is still a vast amount of government support standing behind these two GSE’s. Investors should also recognize that the position of bond holders is senior to that of the U.S. Treasury.

Both GSEs have built up substantial loan loss reserves against their legacy portfolios (loans originated prior to September 2008). Barring further significant deterioration in the housing market, future losses should be greatly reduced. Both GSEs posted operating profits during the first quarter of 2012. FNMA did not need to draw on Treasury support at all in Q1-12, while Freddie Mac’s draw was just $19 million. The difficulty for the GSEs going forward will be in making the required 10% dividend payment to the Treasury, given the mandated reductions in the size of their retained portfolios. As the portfolios shrink, operating income will as well. This will force the GSEs to draw funds from the Treasury, ironically, in order to make the dividend payment to the Treasury. At some point, Congress and the FHFA will need to address this matter. Estimates provided by FTN Financial show that even if the dividend is not addressed, the commitment amounts will be sufficient to keep both GSEs solvent for another 10 years.

In conclusion, we believe it is very important to understand that the U.S. government’s support for Fannie Mae and Freddie Mac through the preferred stock purchase agreements does not go away or expire. While the maximum commitment amount will once again be limited after December 31, 2012, under current assumptions the amount remaining is sufficient to maintain a positive net worth for both GSEs for the foreseeable future.

BOTH CONSUMER INFLATION AND SPENDING SLOW IN APRIL

Tuesday, May 15, 2012

CONSUMER SPENDING SLOWS IN THE SPRING

Retail sales rose by just 0.1% during the month of April, matching the pessimistic median forecast. There was strength in auto sales, which rose 0.5%, and furniture, which jumped 0.7%. Sporting good sales rose by 0.7%, food and beverage sales increased by 0.3%, and sales of electronics rose 0.2%, following a strong 1.2% gain in March.

Ironically, the drop in gasoline prices, which is a net positive for consumers, had a negative effect on the April retail sales data as sales at gasoline stations fell 0.3%. Another negative contributor in April was clothing sales, which declined by 0.7%, apparently the counter-balance to expedited warm weather purchases made in the first few months of the year.

This report, although sluggish on the surface, was right on top of forecasts, and exceeded expectations in some areas. Apparently, there’s still some weather-related distortion affecting the data.

INFLATIONARY PRESSURE EASES

The Consumer Price Index (CPI) was unchanged during the month of April, thanks in part to a 1.7% drop in energy prices, the first decline in that category since December. On a year-over-year basis, headline CPI was up by 2.3%. Just eight months ago, consumer inflation was rising at a rate of 3.9%, which raised inflation flags with some Fed officials. Core CPI, which excludes food and energy prices, rose 0.2% in April and 2.3% year-over-year. Both the CPI and core CPI numbers exactly matched the median Bloomberg forecast.

The threat of recession in Europe and a slowdown in other parts of the world is generally expected to ease global demand and put downward pressure on prices. This should allow the Fed to continue to maintain an accommodative monetary policy going forward.

With an increasing possibility that Greece could exit the Euro sooner rather than later, uncertainty in Europe has escalated. Although speculation on all of this could fill volumes, continued deterioration overseas could result in flight-to-quality into the safe harbor of U.S. government debt, keeping downward pressure on yields.

The equity markets are higher this morning, although it isn’t clear exactly why. Reuter’s is reporting that gains are due to the Empire Manufacturing Index which unexpectedly jumped from 6.56 to 17.09 in April, signaling expansion in the New York region, and a five-year high in the National Association of Home Builders/Well Fargo Builder Confidence Index, suggesting that the housing market is finally gaining ground.

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

DOW	UP 55 to 12,750
NASDAQ	UP 26 to 2,928
S&P 500	UP 7 to 1,341
1-Yr T-bill	current yield 0.18%; opening yield 0.18%
2-Yr T-note	current yield 0.27%; opening yield 0.26%
5-Yr T-note	current yield 0.74%; opening yield 0.71%
10-Yr T-note	current yield 1.79%; opening yield 1.77%
30-Yr T-bond	current yield 2.95%; opening yield 2.93%

A MIXED BAG FOR APRIL EMPLOYMENT

Friday, May 4, 2012

SPRING PAYROLL GROWTH DECELLERATES

First, the good news ...the April unemployment rate fell from 8.2% to 8.1%, a full percentage point drop since last August. More on this later.

And, the not-so-good news …April nonfarm payrolls rose by just 115k. This was 45k below the median Bloomberg forecast and the lowest monthly tally in the company survey since last October. But even this wasn’t all that bad because prior month revisions added a total of 53k jobs to company payrolls in the previous two months. It’s become common belief that unseasonably mild winter conditions inflated payroll growth during the winter months at the expense of the spring, and indeed a total of 757k jobs were added to payrolls from December through February. What we’re seeing now is the expected snapback. However, if the past five months are averaged, nonfarm payrolls grew at just under a 200k pace, essentially meeting the low bar of expectations. With luck, the correction is over.

Job gains in April were concentrated in manufacturing (+16k), retail trade (+29k), professional and business services (+62k), health care (+18k) and leisure and hospitality (+12k). Jobs were lost in transportation and warehousing (-17k), construction (-2k) and government (-15k). Most of the government job loss was at the state and local level.

Although the unemployment rate did fall last month, the reason wasn’t because more people went back to work, but rather because less people were looking. According to the separate household survey, 180k jobs were created during the month, but more importantly, 342k people left the labor force. The participation rate (the percentage of working age people in the labor force) fell from 63.8% to 63.6%, the lowest since December 1981. This severe decline doesn’t have a consensus explanation yet. Some economists seem to believe it has largely to do with discouraged workers choosing not to seek employment, while others suspect it has to do with baby boomers finally reaching retirement age.

There are currently 12.5 million unemployed workers, down from 12.7 in the previous month and 13.8 a year ago. Among these, 5.1 million have been unemployed for 27-weeks or more, down from 5.3 million in March. The number of people employed “part-time for economic reasons” actually rose from 7.7 million to 7.9 million. The significant number of involuntary part-time workers is another reason why it’s been so difficult to whittle away the recessionary job losses - employers will typically increase hours before hiring new workers.

For anyone keeping score, the unemployment rate for men in April declined from 7.6% to 7.5%, the rate for women remained at 7.4%, while the rate for teenagers (16 to 19) dropped a bit from 25% to 24.9%. The U6 measure of unemployment held steady at 14.5%. This number represents discouraged and part-time workers, and basically everyone who would accept a full-time position if one were offered.

The average hourly earnings rate for all employees on private nonfarm payrolls rose by $0.01 in April to $23.38. Over the past year, hourly earnings have now risen by 1.8%.

Stocks are down in early trading and bond prices have rallied, pushing yields slightly downward. It would be easy to blame the stock market decline on the labor report, but the more likely concern is probably the weekend elections in Europe; in particular, the presidential election in France and the parliamentary elections in Greece. At this point, the French Socialist candidate is polling 10 percentage points ahead of incumbent President Nicholas Sarkozy, and all across Europe political candidates opposing austerity measures are gaining favor with voters who are electing to feel as little personal pain as possible.

MARKET INDICATIONS AS OF 9:50 A.M. CENTRAL TIME

DOW	DOWN 125 to 13,081
NASDAQ	DOWN 48 to 2,977
S&P 500	DOWN 15 to 1,370
1-Yr T-bill	current yield 0.17%; opening yield 0.17%
2-Yr T-note	current yield 0.25%; opening yield 0.26%
5-Yr T-note	current yield 0.78%; opening yield 0.82%
10-Yr T-note	current yield 1.88%; opening yield 1.93%
30-Yr T-bond	current yield 3.08%; opening yield 3.12%

SURPRISING STRENGTH IN THE ISM SURVEY

Tuesday, May 1, 2012

PURCHASING MANAGERS SUGGEST GROWTH AHEAD

The ISM manufacturing index unexpectedly rose from 53.4 to 54.8 in April, well above the median Bloomberg forecast for a slight drop to 53.0. Recall that any number above the 50 mark suggests expansion in the factory sector, and by proxy, the economy as a whole.

Within the upbeat headline number, the new orders component rose from 54.5 to 58.2, hinting at stronger future production, while the critical employment index climbed from 56.1 to 57.3. The employment index suggests that Friday’s nonfarm payroll number might not be quite the disappointment experts seem to be anticipating. As of the most recent Bloomberg survey, 162,000 new jobs are expected to be added to company payrolls for the month of April. This, after a meager 120,000 increase in nonfarm payrolls in March.

Stocks are up early on the better-than-expected news, completely reversing yesterday’s losses. Intermediate and long bond yields are slightly higher, although the short end of the curve is unchanged from opening levels.

On a side note (and this is important), gasoline prices continue to fall. The average nationwide pump price, according to the Department of Energy for the week ending April 30^th, was $3.89, the lowest price in six weeks. Lower gasoline prices would provide a much needed boost to consumer wallets.

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

DOW	UP 91 to 13,304
NASDAQ	UP 32 to 3,078
S&P 500	UP 13 to 1,407
1-Yr T-bill	current yield 0.18%; opening yield 0.18%
2-Yr T-note	current yield 0.26%; opening yield 0.26%
5-Yr T-note	current yield 0.84%; opening yield 0.81%
10-Yr T-note	current yield 1.95%; opening yield 1.92%
30-Yr T-bond	current yield 3.15%; opening yield 3.11%

Q1 GDP GROWTH FALLS BELOW FORECASTS

Friday, April 27, 2012

ECONOMIC GROWTH SLOWS

We were all hoping for better, but there were a number of positives to an otherwise downbeat first quarter GDP report. The 2.2% annualized GDP advance fell short of the 2.5% median forecast and was below the 3.0% increase in the previous quarter. However, personal consumption, which represents household spending, was up 2.9%, the biggest increase since Q4 2010. Most of this jump was attributed to auto sales which added 1.1 percentage points to overall GDP. Inventory buildup contributed 0.6 percentage points after adding 1.8 in the previous quarter.

The primary factors that constrained economic growth were government spending, which fell for the sixth straight quarter, and business investment. Spending on company equipment and software rose at a 1.7% rate, the slowest in three years and a significant drop from the 7.5% pace in the prior period. Overall government spending tumbled 3.0% on an annualized basis in the first quarter after a 4.2% decline in the previous quarter, while state and local government spending fell at a 1.2% rate after a 2.2% decline at the end of last year.

The positive aspect of this morning’s report is the composition. The government is spending less and the private sector has picked up the pace. In theory, this is a better formula for sustained recovery. Of course, the downside is that we will need much stronger economic growth in order to create enough jobs to reach full employment.

Yesterday, first-time filings for unemployment benefits were higher than forecasted for the week ending April 21^st with 388k new claims being filed. During the last three weeks, initial claims have averaged slightly above 388k. In the previous three-week period, the average had been a healthier 363k. The recent unwelcomed increase in new filings has caused analysts to be a bit less optimistic about the overall job picture. Based on the higher unemployment claims, Morgan Stanley has cut its April job growth from 140k to 130k. By contrast, January and February payroll growth averaged 257k. If job creation continues to slow, talk of additional asset purchases by the Fed is likely to increase, which in theory would put downward pressure on market yields.

MARKET INDICATIONS AS OF 9:40 A.M. CENTRAL TIME

DOW	UP 22 to 13,226
NASDAQ	UP 6 to 3,057
S&P 500	UP 2 to 1,395
1-Yr T-bill	current yield 0.16%; opening yield 0.16%
2-Yr T-note	current yield 0.26%; opening yield 0.26%
5-Yr T-note	current yield 0.83%; opening yield 0.82%
10-Yr T-note	current yield 1.94%; opening yield 1.94%
30-Yr T-bond	current yield 3.13%; opening yield 3.12%

MORE OF THE SAME FROM FOMC; CORPORATE EARNINGS ENCOURAGE

Wednesday, April 25, 2012

NOTHING SUBSTANTIVE FROM FOMC
The Federal Reserve’s FOMC wrapped up a two-day meeting today and there were no real surprises or unexpected announcements. Since it’s late in the day I’m going to skip the details and keep it brief. The Fed apparently remains somewhat divided. A few of the more hawkish members would like to see the Fed at least begin discussing the idea of taking away the punch bowl. But they don’t hold enough power or influence to sway the more dovish members who remain concerned about headwinds (Europe, housing, U.S. fiscal problems) and the slow progress on the employment front. Those members control policy at the moment, and as a result, the commitment to low rates remains firmly in place. One result seems to be that the hurdle for any new easing measures, QE3 or an extension of “Operation Twist,” is quite high and thus less likely than the market believed just a few short weeks ago. In its official statement, the FOMC reiterated “that economic conditions--including low rates of resource utilization and a subdued outlook for inflation over the medium run--are likely to warrant exceptionally low levels for the federal funds rate at least through late 2014.” Despite this pledge, the published projections of individual committee members show that three members anticipate the first rate hike occurring this year, another three in 2013, and seven in 2014. Four members don’t expect the first hike until 2015. Obviously, much will depend on the data and in particular what happens with inflation and the employment situation. But for now, things remain pretty much the same, with the Fed firmly on hold for the foreseeable future.

DURABLE GOODS, CORPORATE EARNINGS
Today’s durable goods report for March was overshadowed by the FOMC meeting as well as some outstanding results from several companies. Headline durable goods declined 4.2%, much weaker than the -1.7% the street was looking for. Orders ex-transportation also fell, although by a smaller 1.1%. It appears some of the weakness in the first quarter may be payback associated with the expiration of an accelerated depreciation tax credit that drove strength in the fourth quarter of 2011. Whatever the case, the market mostly ignored the data.

What does have markets moving are the first quarter earnings announcements from some large well known companies. If you have a pulse, you have no doubt heard that Apple had a stellar quarter. But so did names like IBM, 3M, United Technologies, DuPont, Eaton, Texas Instruments, McDonald’s, General Electric, and AT&T. All had very good quarters and several companies are raising forward guidance and increasing dividends. And this comes in the face of widely reported slowing in Europe and China. Maybe I’m drinking the Kool-Aid, but this is certainly a very encouraging sign and is leading me to feel a bit more optimistic about the outlook. If we can string a few good quarters together, companies might even begin to hire some folks and then we could really be getting somewhere. There are plenty of potholes on the road in front of us, most of which we have discussed ad nauseum and any one of which could throw us back in the ditch. But for today at least, I’m going to leave feeling a little bit better about the world.

MARKET INDICATIONS AS OF 4:15 P.M. CENTRAL TIME

DOW	Up 89 to 13,091
NASDAQ	Up 68 to 3,030
S&P 500	Up 19 to 1,391
1-Yr T-bill	current yield 0.17%; opening yield 0.17%
2-Yr T-note	current yield 0.27%; opening yield 0.27%
5-Yr T-note	current yield 0.84%; opening yield 0.85%
10-Yr T-note	current yield 1.98%; opening yield 1.97%
30-Yr T-bond	current yield 3.15%; opening yield 3.13%

THE BLOOMBERG INTEREST RATE AND ECONOMIC SURVEYS

Tuesday, April 24, 2012

From April 6 through April 11, 2012, Bloomberg News surveyed 71 top economists for their most recent opinions on the U.S. economy and interest rates. The following are summaries of their responses:

The Economic Forecast

Unemployment Rate - The median forecast for Q2 2012 unemployment is 8.2%. The median forecast for the next five quarters are 8.1%, 8.0%, 7.9%, 7.8% and 7.7%.

The U.S. economy added just 120k jobs in March, the lowest single-month gain since October 2011, and decidedly lower than the 205K forecast by economists leading up to the release. The prior three months had averaged 246K, but apparently were heavily influenced by warmer than usual weather across the country. The average temperature for March, 51.1°F, was the warmest in 117 years. Without the typical inclement weather of winter, seasonal adjustments likely overstated employment gains for December, January and February. Seasonal adjustments are ordinarily needed to “smooth out” the otherwise wildly fluctuating data associated with weather conditions, holidays or any number of other factors. But in this case, the weather was abnormal, resulting in an overstatement of three months worth of data, followed by a fairly strong correction in March.

The unemployment rate, which is calculated from a separate survey of households, actually declined from 8.3% to 8.2%. Unfortunately, it was a 164K drop in the labor force that allowed the jobless rate to creep lower. The number of people considered out of work long-term (27-weeks or longer) was virtually unchanged at 5.3 million, still 42.5% of the total unemployed. The number of people out of work for six months or more reached a post-recession peak of 6.7 million in April 2010. In the two years since, that number has fallen by only 1.4 million, while its share of total unemployment has remained at or above 42% since March 2010. The U-6 measure (total unemployed, plus all marginally attached workers, plus part-time workers for economic reasons), also the beneficiary of a shrinking labor force, fell to 14.7%.

Real GDP (annualized economic growth) - The median GDP growth forecast for Q1 2012 is +2.2%. The median forecast for the next six quarters are +2.3%, +2.5%, +2.5%, +2.25%, +2.5% and +2.8%.

Retail sales came in relatively strong in March, rising 0.8% month-over-month after a 1.0% climb in February. Removing auto and gasoline sales, retail sales still managed to grow 0.7%. Warmer temperatures also seemed to have positively influenced consumer demand, as many consumers set out to make early spring improvements to their homes. Spending at home and garden centers surged a staggering 14.1% from a year ago, a little more than twice the average year-over-year increase. These types of numbers, on their own, would normally provide a boost to GDP.

However, March industrial production, a measure of output from the manufacturing, mining, electric and gas industries, was unchanged for the second consecutive month. While utilities and mining output increased 1.5% and 0.2% respectively, manufacturing output actually fell 0.2% for the month. “Whereas last month (February) the flat report was dominated by declines in electrical utilities and mining, this time it was more troubling in that consumer products, construction materials, and non-industrial supplies all moved sharply lower,” said Steven Ricchuito, chief economist at Mizuho Securities USA.

First quarter GDP results are due to be released on April 27^th, and given the mixed economic data of the first three months of the year, most economists are sticking to Q1 growth of 2.3% to 2.7%.

Consumer Prices - The median annualized consumer inflation forecast for Q2 2012 is +2.3%. The median forecast for the next five quarters are +2.1%, +2.3%, +2.2%, +2.1%, and 2.2%.

The Consumer Price Index (CPI) rose 0.3% in March, just under the 0.4% pace of February. On a year-over-year basis, CPI slowed to 2.7% from 2.9% the month before. Core consumer prices, which exclude food and energy, ticked up 0.2% in March and 2.3% on an annual basis; both were slightly higher than the February numbers. Gains in prices are most noticeable in food and energy, but fortunately for the Fed, price increases have generally been contained to these two areas only and haven’t found their way to other areas of the economy, allowing them to focus their attention on persistently high unemployment and a very accommodative monetary policy.

The Interest Rate Forecast

In an April 11^th speech to a group at New York University, Fed Vice Chairman Janet Yellen reiterated the Fed’s pledge to hold rates low until late-2014, and even went so far as to suggest they may be on hold until 2015. The Vice-Chairman explains her position, saying, “I anticipate that growth in real gross domestic product (GDP) will be sufficient to lower unemployment only gradually from this point forward, in part because substantial headwinds continue to restrain the recovery.”

The headwinds, according to Yellen, include:

· A weak housing sector

...as “demand for housing is likely to pick up only gradually” and, “the huge overhang of both unoccupied dwellings and homes in the foreclosure pipeline will likely allow demand to be met for a time without a sizable expansion in homebuilding.”

· Fiscal policy...

“State and local governments continue to face extremely tight budget situations in light of the weak economy, depressed home prices, and the phasing out of federal stimulus grants, though overall tax revenues have been improving.”
“At the federal level, stimulus-related policies are scheduled to wind down, while both real defense and nondefense purchases are expected to decline over the next several years under the spending caps put in place last year.”

· Slow growth abroad

“Risk premiums on sovereign debt and other securities are still elevated in many European countries.”
“A further slowdown in economic activity in Europe and in other foreign economies would inhibit U.S. export growth.”

Yellen’s Conclusion:

· “In summary, I expect the economic recovery to continue--indeed, to strengthen somewhat over time. Even so, over the next several years, I anticipate that we will fall far short in achieving our maximum employment objective, and I expect inflation to remain at or below the FOMC's longer-run goal of 2 percent.”

On the flip side, Sheila Bair, former chairman of the FDIC, wrote an op-ed on Fortune magazine’s website criticizing the Fed for potentially creating a bond bubble by holding interest rates too low. One line in particular that most people can rally behind: “The biggest beneficiaries of loose money,” she wrote, “are our profligate elected officials who refuse to come to grips with budget deficits and an exemption-laden tax code.” Ms. Bair believes “the Fed should declare victory (over the economy) and not intervene if the market wants to push rates up a bit. Start deflating the bubble before it pops.”

2-year Treasury-note - The average 2-year yield forecast for Q2 2012 is 0.35%. The average yield forecast for the next six quarters are 0.41%, 0.48%, 0.58%, 0.73%, 0.86% and 1.01%. The current 2-yr Treasury yield is 0.26%.

	Q2 2012	Q3 2012	Q4 2012	Q1 2013	Q2 2013	Q3 2013	Q4 2013
Current Survey (April 2012)	0.35%	0.41%	0.48%	0.58%	0.73%	0.86%	1.01%
Prior Survey (March 2012)	0.31%	0.35%	0.40%	0.48%	0.62%	0.73%	0.88%

10-year Treasury-note - The average 10-year yield forecast for Q2 2012 is 2.26%. The average forecast for the next six quarters are 2.42%, 2.57%, 2.70%, 2.85%, 3.00% and 3.13%. The current 10-year yield is 1.97%.

	Q2 2012	Q3 2012	Q4 2012	Q1 2013	Q2 2013	Q3 2013	Q4 2013
Current Survey (April 2012)	2.26%	2.42%	2.57%	2.70%	2.85%	3.00%	3.13%
Prior Survey (March 2012)	2.05%	2.19%	2.36%	2.53%	2.69%	2.87%	3.05%

30-year Treasury-bond - The average 30-year yield forecast for Q2 2012 is 3.35%. The average forecast for the next six quarters are 3.49%, 3.61%, 3.76%, 3.88%, 4.02% and 4.13%. The current 30-year yield is 3.12%.

	Q2 2012	Q3 2012	Q4 2012	Q1 2013	Q2 2013	Q3 2013	Q4 2013
Current Survey (April 2012)	3.35%	3.49%	3.61%	3.76%	3.88%	4.02%	4.13%
Prior Survey (March 2012)	3.1%	3.25%	3.4%	3.55%	3.68%	3.84%	3.97%

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

DOW	Up 74 to 13,001
NASDAQ	Down 8.85 to 2,961
S&P 500	Up 6 to 1,369
1-Yr T-bill	current yield 0.16%; opening yield 0.16%
2-Yr T-note	current yield 0.26%; opening yield 0.25%
5-Yr T-note	current yield 0.84%; opening yield 0.82%
10-Yr T-note	current yield 1.97%; opening yield 1.94%
30-Yr T-bond	current yield 3.12%; opening yield 3.10%

RETAIL SALES SURGE IN MARCH

Monday, April 16, 2012

STRONG CONSUMPTION SHOULD FUEL SOLID Q1 GDP

Consumer spending drives the U.S. economy, and March sales numbers (released this morning) suggest that the most recent quarter may have been a bit stronger than expected. Retail sales rose by 0.8% last month, nearly tripling the 0.3% Bloomberg median forecast, following revised increases of 1.0% in February and 0.7% in January. March gains were broad-based as 11 of 13 categories registered advances. Auto sales, which were expected to show no change, were actually up 0.9% for the month, but even when auto sales are excluded, sales still rose 0.8%.

Other components showing strong gains last month were furniture sales (+1.1%), electronics (+1.0%) and building materials (+3.0%). Electronics probably got a boost from the new i-Pad and discounted sales of the older model as a record 3 million i-Pads were sold during the debut weekend, while building materials benefited from the weather as temperatures in March proved to be the warmest in recorded history. The average temperature across the nation last month was 51.1 degrees, 8.6 degrees warmer than the average March temperature and 0.5 degrees above the previous record set in 1910.

In addition to the mild spring weather, consumers are probably feeling joy over stock market gains, relative calm in Europe and a falling unemployment rate.

Equities have responded positively to the data with the DOW up over 100 points, pushing toward the 13,000 mark again. Bond yields are down only slightly. Today’s numbers shouldn’t change Fed outlook.

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

DOW	UP 117 to 12,967
NASDAQ	DOWN 11 to 3,000
S&P 500	UP to 4 to 1,369
1-Yr T-bill	current yield 0.17%; opening yield 0.17%
2-Yr T-note	current yield 0.27%; opening yield 0.27%
5-Yr T-note	current yield 0.84%; opening yield 0.85%
10-Yr T-note	current yield 1.97%; opening yield 1.98%
30-Yr T-bond	current yield 3.11%; opening yield 3.17%

MARCH PAYROLL REPORT DISAPPOINTS

Friday, April 6, 2012

JOB CREATION FALLS SHORT
Many economists had speculated that unusually mild winter weather had distorted economic data, pulling robust sales and hiring into the first two months of the year, perhaps at the expense of later months. This morning’s employment report seems to support that idea. After several months’ worth of better-than-expected labor market news, job creation fell short in March as just 120,000 jobs were added to U.S. company payrolls, well below the Bloomberg median forecast of 205,000. The March increase was the lowest in five months and less than half of the 246,000 average gain over the prior three-month period.

On the bright side, the Bureau of Labor Statistics pointed out this morning that establishment survey employment has now risen by 3.6 million from its low point in February 2010. The breakdown showed that manufacturing added 37,000 jobs in March and 470,000 since January 2010. Employment in food services and drinking establishments continued to climb as another 37,000 jobs were added during the month and 563,000 since February 2010. The health care sector added another 26,000 jobs, while hiring in professional and business services rose by 31,000. Last month’s losses were primarily concentrated in retail trade as employment fell by 34,000 with most of this in general merchandise stores. Government jobs have been essentially unchanged in the first three months of 2012 after shedding 265,000 positions last year.

UNEMPLOYMENT RATE DECLINES ON DROP IN LABOR FORCE
The unemployment rate, which is calculated from a separate survey of U.S. households, actually fell from 8.3% to 8.2%. The weather distortion had a particularly dramatic effect on this measure as overall employment fell by 31,000 jobs in March after months of huge gains. But a 164,000 drop in the labor force allowed the unemployment rate to creep downward. There are currently 12.7 million unemployed workers. Among these, 5.3 million have been unemployed for 27 weeks or more. The number of people employed “part-time for economic reasons” fell from 8.1 million to 7.7 million. The significant number of involuntary part-time workers is another reason why it’s been so difficult to whittle away the recessionary job losses - employers typically increase hours before hiring new workers. The U6 measure of unemployment fell from 14.9% to 14.5%. This number represents discouraged and part-time workers, and basically everyone who would accept a full-time position if one were offered.

The market reaction to the weaker employment data has been harsh. The market was disappointed. Things aren’t as rosy as they appeared. Granted, it’s a shortened day in the bond market and trading is thinner than usual, but bond prices have rallied big, driving yields to a four-week low. The stock market is closed today, but DOW futures are already down over 100 points.

The U.S. economy is still expanding. Apparently, the pace isn’t quite as brisk as many had thought. Essentially, today’s data bolsters the position of Fed Chairman Bernanke and quiets those thinking the Fed will have to tighten overnight rates sooner than its stated “late 2014” target period.

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

DOW	Closed, futures down 131
NASDAQ	Closed, futures down 15
S&P 500	Closed, futures down 30
1-Yr T-bill	current yield 0.19%; opening yield 0.18%
2-Yr T-note	current yield 0.32%; opening yield 0.34%
5-Yr T-note	current yield 0.89%; opening yield 1.00%
10-Yr T-note	current yield 2.05%; opening yield 2.18%
30-Yr T-bond	current yield 3.20%; opening yield 3.33%

FOMC STATEMENT RATTLES THE FINANCIAL MARKETS

Tuesday, April 3, 2012

FED INDICATES NO ASSET PURCHASES EXPECTED

Although market participants have increasingly bought into the notion that the U.S. economy is strengthening such that the FOMC could tighten monetary policy sooner rather than later, the financial markets were disappointed that the Fed seems to be backing away from additional stimulus. This afternoon, the minutes from the March 13^th FOMC meeting revealed that Fed officials had affirmed their plan to hold the funds rate steady until late 2014, but the phrase contained in the January minutes stating that economic conditions “could warrant the initiation of additional securities purchases” had been abandoned. Only two members of the committee suggested that “additional stimulus could become necessary if the economy lost momentum or if inflation seemed likely to remain below 2%.”

This is a surprise to the dealer community, the majority of whom had expected some form of QE3 or an extension of “Operation Twist.” Just yesterday, a Bloomberg survey showed that 15 of 21 dealers were forecasting additional accommodation.

At the same time it doused the likelihood of additional asset purchases in the near term, FOMC members downplayed overall improvement in economic data stating they “…did not interpret recent economic and financial information as pointing to a material revision to the outlook for 2013 and 2014.” In addition, the committee discounted recent labor market gains, describing unemployment as still being “elevated,” and pointing out that despite encouraging payroll data there is “…a risk that improvements in employment could diminish as the year progresses.”

Stocks fell immediately after the announcement. At the same time, bond prices have fallen (yields higher). This simply reflects the Fed’s expectation of potentially slower economic growth, as well as the idea that the Fed may not be supporting the Treasury market as its majority buyer.

Of course, all of this is contingent on what happens going forward. Fed officials probably aren’t anxious to see market expectations undo monetary policy before they are ready. The words contained in the March minutes should corral expectations for a while.

On Friday (Good Friday), the stock markets will be closed, the bond market will be open until noon, and the always important monthly labor market report will be released to a smaller-than-usual audience.

MARKET INDICATIONS AS OF 2:15 P.M. CENTRAL TIME

DOW	DOWN 84 to 13,180
NASDAQ	DOWN 12 to 3,107
S&P 500	DOWN 9 to 1,403
1-Yr T-bill	current yield 0.19%; opening yield 0.17%
2-Yr T-note	current yield 0.36%; opening yield 0.33%
5-Yr T-note	current yield 1.10%; opening yield 1.01%
10-Yr T-note	current yield 2.28%; opening yield 2.18%
30-Yr T-bond	current yield 3.41%; opening yield 3.33%

FED OFFICIALS DEBATE POLICY DIRECTION

Friday March 30, 2012

FED IN DISAGREEMENT

Last Sunday, Fed Chairman Bernanke appeared on 60-Minutes. On the topic of the FOMC maintaining the overnight funds rate near zero until at least late 2014, Bernanke said “…we've never issued a guarantee. We've said very clearly that that's our best estimate …But of course if the economy looks different, if things get a lot stronger or a lot weaker we'll have to change our plans." The following day, Bernanke told an audience at the National Association for Business Economics that hiring is still “significantly below pre-crisis levels,” and “unemployment is still above the long term sustainable level.” He speculated that much of the recent job growth simply represents a correction from over-firing earlier in the business cycle. As a result, he figures further improvements in the unemployment rate would need to be supported by continued accommodative policies. To some degree, Bernanke’s comments are in response to recent and growing sentiment that the Fed may need to begin policy tightening earlier than late 2014 as the economy gains strength.

For what it’s worth, economists at Bank of America Merrill Lynch expect U.S. growth to slow by summer, which would support the idea of more quantitative easing later this year. But, there is still plenty of debate within the Fed that will present challenges on the timing and extent of any further asset purchases. Both Richmond Fed President Lacker (current FOMC voting member) and St. Louis Fed President Bullard (not an FOMC voting member this year) recently said the Fed might need to tighten monetary policy as soon as next year. Dallas Fed President Fisher told Fox Business News that “although growth is slower than we would like, it is gaining momentum …and we will not support further quantitative easing under these circumstances...” And on Monday, Philadelphia Fed President Plosser said the Fed should not use its balance sheet as a regular tool for monetary policy.

CONGRESSIONAL LEADERS SQUABBLE

On Wednesday, the House of Representatives, by a 382-38 vote, crushed a compromise budget proposal, similar to the bipartisan Simpson-Bowles plan, that would have reduced the federal deficit by more than $4 trillion over a 10-year period through both spending cuts and tax increases. President Obama’s $3.6 trillion budget proposal was voted down earlier that day by a 414-0 count. The following day, Representative Paul Ryan’s $3.5 trillion budget passed the GOP-controlled House with a 228-191 count. All but 10 Republicans voted in favor while all Democrats opposed. Ryan’s plan is not expected to pass the Senate. So, it now appears as though the United States could operate without a budget for the fourth straight year.

The Wall Street Journal ran a story on Thursday entitled “Clock Ticks on U.S.’s Fiscal Time Bomb” that addresses three possible outcomes to the problem of a combination of mandatory spending reductions and expiring tax cuts due to take effect nine months from now. Bernanke has referred to this point as “a massive fiscal cliff.” According to the Journal story, the most likely “solution” is to kick the can further down the road.

Whenever the Fed does decide to raise interest rates, debt service costs will climb. The combination of higher interest rates and an ever-rising national debt (assuming politicians can’t agree on a credible budget) is a very real problem.

MARKET INDICATIONS AS OF 9:35 A.M. CENTRAL TIME

DOW	Up 13 to 13,158
NASDAQ	Down 14 to 3,082
S&P 500	Up 1 to 1,399
1-Yr T-bill	current yield 0.17%; opening yield 0.17%
2-Yr T-note	current yield 0.33%; opening yield 0.33%
5-Yr T-note	current yield 1.01%; opening yield 1.01%
10-Yr T-note	current yield 2.15%; opening yield 2.16%
30-Yr T-bond	current yield 3.26%; opening yield 3.27%

MARCH 2012 BLOOMBERG INTEREST RATE AND ECONOMIC SURVEYS

Monday, March 26, 2012

From March 9 through March 13, 2012, Bloomberg News surveyed 71 top economists for their most recent opinions on the U.S. economy and interest rates. The following are summaries of their responses:

The Economic Forecast

Unemployment Rate - The median forecast for Q1 2012 unemployment is 8.3%. The median forecast for the next six quarters are 8.2%, 8.2%, 8.1%, 8.0%, 7.8% and 7.75%.

The U.S. economy added 227k jobs in February, exceeding consensus expectations of 210K. The prior two months were revised higher by 61K. Public sector employment fell by 6K, all from the federal government; state and local governments managed to add 1K jobs across the country. Private sector employment managed another decent gain, expanding 233K for the month, and boosting the three-month trailing average from 232K to nearly 252K. However, as anyone who follows recent economic news knows, very little positive news is released without some sort of caveat. February’s jobs report was no different. Many economists are suggesting this year’s abnormally mild winter may have skewed the numbers to the high side, as the Bureau of Labor Statistics didn’t alter the seasonal adjustment to account for the warmer temperatures. The result, many suggest, is inflated first quarter numbers and possibly a prelude to slower job growth in the months to come.

The unemployment rate was unchanged at 8.3% as the labor force increased by 476K, after gaining 508K in January. Average hourly earnings edged up a marginal 0.1%, about half of the increase that most expected, while average weekly hours and overtime remained unchanged.

The number of people out of work for six months or more (the long-term unemployed) was down slightly to 5.43 million, still nearly 43% of all the jobless. The U-6 measure (total unemployed, plus all marginally attached workers, plus part-time workers for economic reasons) fell to 14.9%, its lowest level since January 2009.

Real GDP (annualized economic growth) - The median GDP growth forecast for Q1 2012 is +2.0%. The median forecast for the next six quarters are +2.2%, +2.5%, +2.5%, +2.15%, +2.5% and +2.7%.

On the third revision of Q4 GDP, the economy expanded at a 3.0% annual rate, faster than the 2.8% expected by economists surveyed ahead of the report. Much of the expansion came as businesses replenished inventories in anticipation of higher demand in the months to come. The rate at which those inventories turnover is yet to be seen, but the first couple of months of 2012 appear to have been relatively solid. On the heels of a more stable labor market, consumers appear more comfortable spending, as January retail sales were revised higher 0.6% and February advanced 1.1%, the largest monthly increase in five months.

Some of the advancement in February’s retail sales were directly correlated to higher gasoline prices, which provided a 3.3% boost in sales at gas stations. Despite the higher prices at the pump, consumers still spent liberally, as 11 of the 13 categories showed gains.

At the time of this writing, WTI Crude sits at $107 /bbl and the national average for a gallon of gas is $3.89, 24 cents higher than last month. A common rule of thumb is that for every penny increase in retail gasoline, $1 billion is shaved from household incomes annually, which could dampen consumer demand and ultimately result in lower sales and less restocking of inventories by businesses, thus lowering one of the largest contributors to GDP and the recovery.

Consumer Prices - The median annualized consumer inflation forecast for Q1 2012 is +2.7%. The median forecast for the next six quarters are +2.25%, +2.0%, +2.2%, +2.2%, +2.1% and 2.2%.

Core consumer prices, which exclude food and energy, rose a negligible +0.1% in February, while the year-over-year increase was +2.2%, one-tenth of a percent lower than January. The headline number climbed 0.4% for the month and 2.9% on the year. The CPI data was in line with expectations and show current inflationary pressures in the U.S. are almost entirely due to rising oil prices, as the energy component of the index rose 3.2% from January to February.

The Interest Rate Forecast

Overnight Fed Funds - The MEDIAN fed funds forecast for Q1 2012 is 0.25%. The MEDIAN forecast for the next six quarters are 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%.

In a recent speech before the National Association for Business Economics (NABE), Chairman Bernanke highlighted recent improvements in the labor market, noting that “a wide range of indicators suggests the job market has been improving, which is a welcome development indeed,” but he also made clear more improvement was needed. “Still, conditions remain far from normal, as shown, for example, by the high level of long-term unemployment and the fact that jobs and hours worked remain well below pre-crisis peaks, even without adjusting for growth in the labor force.”

He suggested "a more-rapid expansion of (business) production and demand from consumers and businesses" was probably needed, which he said “can be supported by continued accommodative policies.”

2-year Treasury-note - The average 2-year yield forecast for Q1 2012 is 0.31%. The average yield forecast for the next six quarters are 0.35%, 0.40%, 0.48%, 0.62%, 0.73% and 0.88%. The current 2-yr Treasury yield is 0.34%.

	Q1 2012	Q2 2012	Q3 2012	Q4 2012	Q1 2013	Q2 2013	Q3 2013
Current Survey (March 2012)	0.31%	0.35%	0.40%	0.48%	0.62%	0.73%	0.88%
Prior Survey (February 2012)	0.27%	0.31%	0.37%	0.45%	0.59%	0.70%	0.85%

10-year Treasury-note - The average 10-year yield forecast for Q1 2012 is 2.05%. The average forecast for the next five quarters are 2.19%, 2.36%, 2.53%, 2.69%, 2.87% and 3.05%. The current 10-year yield is 2.24%.

	Q1 2012	Q2 2012	Q3 2012	Q4 2012	Q1 2013	Q2 2013	Q3 2013
Current Survey (March 2012)	2.05%	2.19%	2.36%	2.53%	2.69%	2.87%	3.05%
Prior Survey (February 2012)	2.03%	2.18%	2.34%	2.53%	2.73%	2.90%	3.06%

30-year Treasury-bond - The average 30-year yield forecast for Q1 2012 is 3.1%. The average forecast for the next five quarters are 3.25%, 3.4%, 3.55%, 3.68%, 3.84% and 3.97%. The current 30-year yield is 3.33%.

	Q1 2012	Q2 2012	Q3 2012	Q4 2012	Q1 2013	Q2 2013	Q3 2013
Current Survey (March 2012)	3.1%	3.25%	3.4%	3.55%	3.68%	3.84%	3.97%
Prior Survey (February 2012)	3.1%	3.25%	3.4%	3.58%	3.73%	3.89%	4.05%

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

DOW	Up 163 to 13,244
NASDAQ	Up 53.65 to 3,122
S&P 500	Up 15.9 to 1,410
1-Yr T-bill	current yield 0.17%; opening yield 0.17%
2-Yr T-note	current yield 0.34%; opening yield 0.35%
5-Yr T-note	current yield 1.07%; opening yield 1.08%
10-Yr T-note	current yield 2.24%; opening yield 2.25%
30-Yr T-bond	current yield 3.33%; opening yield 3.33%

FEBRUARY HOUSING DATA

Friday, March 23, 2012

HOME SALES DECLINE

Both new and existing home sales unexpectedly fell in February, although the decreases were minor, and the markets didn’t seem to care too much. On Wednesday, February existing home sales dropped by 0.9% to a 4.6 million annualized pace. Experts had forecasted a 0.9% increase. For comparison sake,at the peak in 2005, 7.1 million existing homes were sold, while in 2008, only 4.1 million were sold. The inventory of existing homes for sale rose from 6 months to 6.4 months as an additional 100,000 homes were listed in February bringing the official total to 2.43 million. However, the “shadow inventory” of REO properties on bank books may dwarf that number. The U.S. Department of Housing and Urban Development estimates that the number of homes not listed totaled 3.6 million at the end of the year. This number includes homes defaulting through a Fannie Mae or Freddie Mac loan, but does not count millions of non-conforming loans. As a result, the exact inventory is simply an educated guess. According to the Wall Street Journal, the actual total could be anywhere from three million to 10 million.

This morning, new home sales for February unexpectedly dropped 1.6%, although the annualized sales level at 313k is such a small percentage of the total that the series has become largely irrelevant. Despite the drop in sales and added supply, U.S. home prices actually inched higher with the median price of existing homes up 0.3% year-over-year to $156,600, and the average price for a new home up 6.2% to $233,700.

There were several minor housing indicators released earlier in the week. Most showed improvement from very low levels, although it’s important to understand how far this depressed sector has yet to go. Housing starts fell 1.1% in February to a 698k annual rate, while February building permits rose 5.1% to 717k, the highest in 3½ years. HOWEVER, in late 2005, the pace of starts and permits were both well above 2 million per year.

The National Association of Home Builders/Wells Fargo Confidence Index for March held steady at a 4½-year high of 28 for the second straight month. After averaging 16 during 2011, and hitting a low of 8 in early 2009, 28 sounds pretty strong, but the home builder’s index, similar to the ISM index, has a dividing point of 50. Any number above 50 indicates a majority of builders have positive outlooks; below 50, negative.

So, the bottom line for housing seems to be that we are probably near a bottom, but still have a long way to climb. The good news is that the housing sector is no longer the economic anchor it once was.

The graph below comes from FTN Economist Chris Low. I think it effectively illustrates the peaks and troughs discussed previously.

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

DOW	UP 32.7 to 13,078
NASDAQ	DOWN 4 to 3,059
S&P 500	UP 1 to 1,390
1-Yr T-bill	current yield 0.17%; opening yield 0.18%
2-Yr T-note	current yield 0.35%; opening yield 0.36%
5-Yr T-note	current yield 1.08%; opening yield 1.12%
10-Yr T-note	current yield 2.23%; opening yield 2.28%
30-Yr T-bond	current yield 3.31%; opening yield 3.36%

ROBUST RETAIL SALES, TONE OF FOMC MORE POSITIVE

Tuesday, March 13, 2012

BROAD BASED STRENGTH IN RETAIL SALES
Headline retail sales advanced by 1.1% in February, matching the median forecast of economists in Bloomberg’s survey and logging the biggest gain in five months. Excluding autos, sales rose a better than expected 0.9%. While some of the strength was driven by rising gasoline prices, sales still managed a very respectable 0.8% gain excluding gas. Data for January was revised higher as well, with headline sales boosted from an originally reported 0.4% to 0.6%, and sales ex-autos jumping from 0.7% to 1.1%. The strength in February sales was broad based as 11 of 13 categories showed gains. On a three month average annualized pace, retail sales are growing at a 6.1% rate. Warmer than usual weather likely played a role. Bloomberg reported that February’s average temperature was 3.6 degrees warmer than the 20^th century average. The weather, lower heating bills, a better job market, and an improving stock market have all been noted as contributing factors. Whatever the cause, the consumer’s sunny disposition is encouraging news for our consumer driven economy.

We’ll skip the details, but a couple of more minor reports released today also showed positive results.

FOR THE USS FOMC, IT’S STEADY AS SHE GOES
The Federal Reserve’s FOMC concluded its meeting today and as expected did not make any significant changes to monetary policy. And while they offered no real hints of QE3 or other additional programs, the FOMC also made it clear that they will maintain the easy policy. The committee reiterated that their highly accommodative stance was “likely to warrant exceptionally low levels for the federal funds rate at least through late 2014.” The previously announced program commonly referred to as Operation Twist will continue, and the Fed will continue reinvesting principal and interest flows from its portfolio.

Today’s FOMC statement was infused with a handful of more upbeat assessments. The committee noted that “the economy has been expanding moderately. Labor market conditions have improved further, the unemployment rate has declined notably in recent months…” The committee also noted that “Strains in global financial markets have eased, though they continue to pose significant downside risks to the economic outlook.” Finally, the FOMC acknowledged the recent run up in gasoline prices as both a risk to economic growth and to inflation in the short run. All in all, the FOMC appears committed to its current course and seems to be quite comfortable taking a wait and see approach.

STOCKS SURGE, YIELDS RISE

In a refreshing change, financial markets are actually reacting to today’s string of news and doing so in a logical fashion reminiscent of the old days. Stocks are up and bonds are down, which is exactly what you expect when economic data is improving. The move is further reinforced by the Fed’s commitment to very accommodative policy. The Dow Jones Industrial Average is up more than 200 points to the highest level since 2007, with the S&P 500 and NASDAQ also rallying. Bonds on the other hand are selling off, sending yields quite a bit higher. The two-year T-note yield has risen to 0.34%, it was 0.21% in late January. The 10-year T-note yield has climbed from 1.94% a week ago to 2.12% this afternoon.

MARKET INDICATIONS AS OF 3:36 P.M. CENTRAL TIME

DOW	Up 218 to 13,178
NASDAQ	Up 56 to 3,040
S&P 500	Up 25 to 1,396
1-Yr T-bill	current yield 0.19%; opening yield 0.18%
2-Yr T-note	current yield 0.34%; opening yield 0.32%
5-Yr T-note	current yield 0.98%; opening yield 0.91%
10-Yr T-note	current yield 2.12%; opening yield 2.03%
30-Yr T-bond	current yield 3.27%; opening yield 3.17%

ACCOMODATION USHERS IN STRONG JOB GAINS

Friday, March 9, 2012

JOB CREATION INCREASES

Congress and the Administration have paved the way for economic growth by postponing painful budget cuts and extending long-term unemployment benefits, payroll tax cuts and the “Bush Tax Cuts” beyond 2012, thereby allowing for unencumbered growth this year. Belt-tightening won’t happen until early 2013. As a result, the economic data has been quite solid in recent months and should remain upbeat for the near-term future.

This morning, the February employment report exceeded forecasts and generated a considerable amount of positive news. The Bureau of Labor Statistics announced that nonfarm payrolls rose by 227k last month, topping the median forecast for 210k. But the bigger story was in the revision to the January payroll number, as gains originally reported at 243k were revised upward to 284k. According to the company survey, 1.2 million jobs have been created in the last six months, the fastest pace since 2006.

In the household survey, which generates the unemployment rate, the figures were even stronger. In February, 428k jobs were created. Recall that in January, the household survey had reported a whopping 847k new jobs. Despite last months’ sizable gain, the unemployment rate held steady at 8.3%. The reason it didn’t drop was that 476k newly encouraged Americans resumed their job hunt in February, pushing the participation rate up from 63.7% to 63.9%.

The so called “underemployment rate,” representing all those who would accept a full-time job if one were offered, fell from 15.1% to 14.9%. As recently as September, this U6 unemployment rate was at 16.4%.

Payroll gains in February were concentrated in health care (+61k), food services and drinking establishments (+41k), and manufacturing (+31k). Temporary hiring rose by 45k. Increases in this particular sector signal hiring of full-time positions down the line. Government jobs continued to decline as another 6k were lost during the month. Clearly, the private sector has taken up the slack for the time being.

Bond prices have traded down a bit in early trading (yields slightly higher), while the stock markets are currently showing gains on the day.

The bottom line is that the labor report was better than expected …across the board. One of the mildest winters on record probably played a role, but confidence is on the rise and there’s no denying that the outlook, at least for the next couple of quarters, is much improved. That doesn’t mean the Fed will curtail its accommodative stance. In fact, there’s renewed talk about another round of asset purchases, and Bernanke has not backed away from the late-2014 timeframe for initial tightening of the overnight funds rate.

MARKET INDICATIONS AS OF 9:30 A.M. CENTRAL TIME

DOW	UP 47 to 12,954
NASDAQ	UP 15 to 2,985
S&P 500	UP 2 to 1,363
1-Yr T-bill	current yield 0.18%; opening yield 0.18%
2-Yr T-note	current yield 0.31%; opening yield 0.30%
5-Yr T-note	current yield 0.90%; opening yield 0.88%
10-Yr T-note	current yield 2.04%; opening yield 2.01%
30-Yr T-bond	current yield 3.21%; opening yield 3.17%

A MIXED BAG TO BEGIN MARCH

Thursday, March 1, 2012

MANUFACTURING DISAPPOINTS WHILE UNEMPLOYMENT CLAIMS FALL

Apparently, recent strength in the Chicago, Dallas, Kansas City and Richmond manufacturing regions didn’t translate into a stronger national ISM number. Expectations were for a slight increase from 54.1 to 54.5. Instead, the February ISM figure was 52.4, still above the 50 mark that differentiates expansion from contraction, but well below the median forecast. Slowing in overseas markets have contributed to the less optimistic survey results as the most recent survey of the 17-nation European region signaled contraction for the seventh straight month.

U.S. factory expansion is being fueled primarily by a resurgent auto sector. Total U.S. auto sales won’t be reported until later today, but so far, GM, Ford, Chrysler and Nissan have all topped analyst’s estimates, suggesting that overall sales will exceed forecasts in February.

On the labor front, initial jobless claims fell by 2,000 to 351,000 for the week ending February 25^th. This matched the lowest level of first-time claims for unemployment benefits in four years. The number of Americans receiving long-term benefits also declined last week, along with the total number receiving jobless benefits. The level of initial claims continues to be consistent with monthly job creation above 200,000. This is good news.

Yesterday, Fannie Mae announced it would need another $4.6 billion to fund its fourth quarter losses. The pace of borrowing for both Fannie and Freddie has slowed significantly in the past year, but the housing market is still struggling. A wave of recent defaults have been blamed for Q4 losses.

A number of market participants have interpreted Wednesday’s cautiously upbeat House testimony by Fed Chairman Bernanke as indicating there will not be another round of quantitative easing. This thought is contributing to a rise in yields on the long end of the curve.

MARKET INDICATIONS AS OF 10:05 A.M. CENTRAL TIME

DOW	UP 30 to 12,981
NASDAQ	UP 12 to 2,979
S&P 500	UP 6 to 1,370
1-Yr T-bill	current yield 0.16%; opening yield 0.16%
2-Yr T-note	current yield 0.30%; opening yield 0.30%
5-Yr T-note	current yield 0.91%; opening yield 0.86%
10-Yr T-note	current yield 2.05%; opening yield 1.98%
30-Yr T-bond	current yield 3.17%; opening yield 3.09%

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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David Medanich
Vice Chairman
david.medanich@firstsw.com
817.332.9710
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