The Economy and Bond Market Diary (04/18/2010)
Bonds rallied this week as Treasury bond yields fell by 10 basis points or more across the majority of the yield curve.
Most of the change occurred Friday in an apparent flight to quality that boosted Treasuries at the expense of most other assets. We also had Fed Chairman Bernanke in front of Congress and the release of the Fed’s “Beige Book,” both of which hinted at a comfort with current Fed policy and inflation expectations.
Inflation data out this week offered a mixed bag – the consumer price index was more or less as expected and indicates relatively benign inflation, but import prices sent a different signal by rising 11.4 percent on a year-over-year basis. The chart below highlights the directional changes in import prices and CPI tend to trend together and, while inflation expectations remain very low, import prices may be telling a different story. It is important not to be complacent with regard to inflation as perceptions can change quickly.
Strengths
- China’s first-quarter GDP rose 11.9 percent, the latest bit of news to confirm the global economic recovery powers ahead.
- In March, housing starts rose 1.6 percent, while building permits jumped 7.5 percent. This signals some stabilization and modest improvement in the housing market.
- Retail sales for March increased 1.6 percent month over month and 7.6 percent year over year as the consumer appears willing to spend.
Weaknesses
- Contradicting the strong retail sales numbers was weakness in the University of Michigan Confidence report, which fell to the lowest level since November.
- Industrial production rose a modest 0.1 percent, well below expectations. This may be one of the first indicators that inventory rebuilding is coming to an end.
- NFIB Small Business Optimism Index fell to the lowest levels since July. This is another troubling report that contradicts positive reports on jobs and retail sales.
Opportunities
- If financial markets are a good mechanism for discounting the future, the future appears relatively robust. The markets have been able to shake off bad news relatively easily recently, which is probably a good sign for the economic recovery.
Threats
- When governments around the world begin to wind-down the monetary and fiscal stimulus programs put in place during the economic crisis, it will likely present a headwind for the economy.
