The municipal market was weaker yesterday as the Federal Reserve opted to cut the federal funds rate target 50 basis points to 3%.
The cut is the second time in just over a week that the Fed has lowered fed funds target, having now decreased the rate 125 basis points over that time period. The Federal Open Market Committee cut the rate 75 basis points last Tuesday, to 3.50% from 4.25%, and then cut again yesterday to 3% from 3.50%.
“I was looking for a smaller move, just on the notion that they’d already done 75 basis points last week and the data had firmed a little bit, but given that they took the bigger move and then tried to clear the decks and damp expectations for further rate cuts, it wasn’t wrong to do that,” said Alan Levenson, chief economist at T. Rowe Price Associates Inc. in Baltimore. “If we don’t have a recession, it seems to me that any further easing is just following the rate of inflation down, if the rate of inflation goes down. But I think without going into a recession, we’re pretty near the end of the process.”
Levenson said he believes the Fed has taken the proper course of action with this move and last week’s.
“The Fed may have been open to criticism in the second half of last year, not only for a very incremental response to the deteriorating economic and financial market environment, but also for trying to hard to be transparent communicative,” Levenson added. “I think they’ve gotten themselves on the right side of things with a more aggressive policy stance, and a more plain-spoken style of communication [yesterday] and a week ago.”
Following the Fed announcement, traders said tax-exempt yields were lower by three to five basis points.
“This was a brutal one. Everybody waited around all day for the Fed to come out and make their announcement, which they did, and reading over it, I didn’t think it was too bad,” a trader in California said. “I thought it read pretty well, but the long Treasuries are sure taking it in the shorts, and there’s not a whole lot of buyers around for long municipal bonds either. It’s been a tough day.”
“There just seems to be a real lethargy among buyers out there,” the trader continued. “A lot of sellers, but not a lot of buyers. I think that the buyers are thinking ‘why should I commit now when I can buy it cheaper later?’ Of course, that becomes a bit of a self-fulfilling prophecy as long as everyone’s in that same boat, but it’s gotten pretty ugly pretty quick.”
The Treasury market was mixed yesterday. The yield on the benchmark 10-year Treasury note, which opened at 3.68%, finished at 3.70%. The yield on the two-year note was quoted recently at 2.22% after opening at 2.29%.
In a statement accompanying the rate cut, the Fed said: “Financial markets remain under considerable stress, and credit has tightened further for some businesses and households. Moreover, recent information indicates a deepening of the housing contraction as well as some softening in labor markets.”
The statement added, “the committee expects inflation to moderate in coming quarters, but it will be necessary to continue to monitor developments carefully.”
“The FOMC’s statement accompanying [yesterday]’s rate cut was, as with last week’s statement, to the point,” wrote Guy LeBas, fixed-income strategist at Janney Montgomery Scott LLC. “Clearly, the major concern for the foreseeable future will remain on the growth side of the equation, as indicated by the FOMC comments that ‘recent information indicates a deepening of the housing contraction as well as some softening in labor markets.’ The Fed also referenced continued challenges in the financial markets, but at this point, we have to believe that, in comparison to slowing economic growth, financial market liquidity presents only a limited problem.”
In economic data released yesterday, advanced fourth-quarter gross domestic product came in at 0.6%, after a 4.9% reading for the previous quarter. Economists polled by IFR Markets had predicted a 1.2% level for GDP.
In the new-issue market yesterday, the Department of Transportation of Maryland competitively sold $250 million of consolidated transportation bonds to Merrill Lynch & Co., with a true interest cost of 3.77%. The bonds mature from 2011 through 2023, with yields ranging from 2.45% with a 4% coupon in 2011 to 3.80% with a 5% coupon in 2021. Bonds maturing in 2012, 2013, 2015, 2016, 2022, and 2023 were not formally re-offered. The bond, which will be callable at par in 2018, and are rated Aa2 by Moody’s Investors Service, AAA by Standard & Poor’s, and AA by Fitch Ratings.
Other economic data will be released later this week, most importantly tomorrow’s release of January non-farm payrolls. Initial jobless claims for the week ended Jan. 26, continuing jobless claims for the week ended Jan. 19, December personal income, December personal consumption, the December core personal consumption expenditures deflator, and the January Chicago purchasing managers index will be released today. Then tomorrow, in addition to non-farm payrolls, the January Institute for Supply Management business activity composite index will be released, alongside the final January University of Michigan consumer sentiment index.
Economists polled by IFR Markets are predicting 58,000 new jobs were created in January. They are also predicting 318,000 initial jobless claims, 2.675 million continuing jobless claims, a 0.4% uptick in personal income, a 0.1% increase in personal consumption, 2.2% growth in the core PCE deflator, a 52.0 Chicago PMI reading, a 47.0 reading in the ISM index, and a 79.0 consumer sentiment reading.