Distracted by trade, bond market shrugs off strong indicators
Financial markets remained focused on trade issues with China Thursday, ignoring data on U.S. construction and employment.
While the tension with China “is a drag on economic growth,” it won’t “derail the overall U.S. economy,” Payden & Rygel Chief Economist Jeffrey Cleveland said in a commentary. Research suggests the tariffs will cost the U.S. about $4 billion a month in a $21 trillion economy, he said. “Seen in that light, talk of tariffs tipping the U.S. into a recession — or even a more significant slowdown — seem wildly overdone.”
As such, “it’s premature for investors to price in rate cuts from the Federal Reserve based on the recent run of the data,” Cleveland said.
“We do not expect any changes in the Fed’s target funds rate, unless economic data meaningfully improves (hike) or deteriorates (cut),” Bill Merz, director of fixed income at U.S. Bank Wealth Management wrote in a commentary. “We recommend investors maintain shorter-than-benchmark maturities within bond portfolios due to our upward bias to Treasury yields and minimal incremental compensation for extending maturity.”
While Thursday’s data “offsets” other “recent disappointing data” according to Steven Oh, global head of credit and fixed income at PineBridge Investments, “The bond market reactions are currently being dominated by the trade flare up and most current economic data will likely be a bit of an afterthought to the developments on the trade front.”
Since data are generally accompanied by “some noise,” they need “to be viewed across a broader trend,” he said.
And the costs of the tariffs will mostly be “on confidence,” Brad McMillan is the chief investment officer at Commonwealth Financial Network wrote in a commentary. “Business confidence, especially in the manufacturing sector, has already taken a knock, and the most recent developments will make the situation worse. Consumer confidence will certainly take a hit on rising prices, if the tariffs are passed through in prices. Neither of these effects will be immediate but will show up over time — just like the economic impact.”
Separately, Federal Reserve Bank of Minneapolis President Neel Kashkari said, “monetary policy has been too tight in this recovery, resulting in a slower economic recovery than necessary and low inflation expectations, which directly saps the Fed’s ability to respond to a future downturn.”
Kashkari said, “I don’t think our approach to monetary policy in this recovery has provided as much stimulus as the economy required.”
Had policy worked optimally, “the twin goals of price stability and maximum employment should be in tension.” He pointed to modest wage growth as evidence “that we are not yet at maximum employment. With inflation somewhat too low and the job market still showing capacity after 10 years, the only reasonable conclusion I can draw is that monetary policy has been too tight in this recovery.”
The Federal Open Market Committee raised rates nine times while “inflation was always at or below target. In my view, these rate increases were not called for by our symmetric framework.”
While the FOMC thought the nation was at maximum employment, he said, “I believe that we misread the labor market.” If maximum employment was reached, there would be a sudden acceleration in inflation, “and we would then have to raise rates quickly to contain it.”
The Fed’s 2% inflation target has been treated a ceiling, and “we have not implemented our current framework as it was designed to be implemented.” If the Fed is “serious about symmetry,” Kashkari said, it “allow inflation to climb modestly above 2%.”
With the Fed reevaluating its framework, he said, any new plan must be evaluated “not only in how it is supposed to work in theory, but also in how it is likely to be implemented in practice when policymakers are facing imperfect information on real economic activity.”
Housing starts grew 5.7% in April to a 1.235 million seasonally adjusted annual pace from an upwardly revised 1.168 million in March. Building permits increased 0.6% to a 1.296 million rate from a 1.288 million pace. Economists polled by IFR Markets had predicted a 1.200 million rate for starts and 1.290 million for permits.
Initial jobless claims for the week ended May 11 fell to 212,000 from 228,000 the week before, while continuing claims fell to 1.66 million in the week ended May 4 from 1.688 million the week before. Economists expected claims to dip to 223,000.
The Federal Reserve Bank of Philadelphia’s Report on Business showed continued manufacturing growth, as the general activity index rose to 16.6 in May from 8.5 in April. The indexes for future outlook were “relatively low,” while the price indexes showed “continued modest price pressures.”
Business Leaders Survey
The Federal Reserve Bank of New York’s May 2019 Business Leaders Survey showed strong growth, with the business activity index climbed to 20.6, its highest level since September, from 10.9. The business climate index gained to 10.7 from 1.8, suggesting “firms regarded the business climate as better than normal.”