The Economy and Bond Market Cheat Sheet (November 14, 2011)
Treasury yields ended the week just a few basis points higher than last Friday. The U.S. dollar was also roughly unchanged for the week. With the backdrop of extremely volatile foreign bond markets and significant volatility in the equity markets, this is somewhat surprising. The chart below depicts the yield on the Italian 10-year government bond. As can easily be seen, yields spiked above 7 percent this week, but then quickly reversed course. Italy is in the “too big to fail” camp and it is widely believed that yields above 7 percent reach the unsustainable level for Italy to service its debt in the long run. The positive takeaway from this week is that despite lots of panic in many global markets, the U.S. fixed income market is surprisingly quiet. Possibly, the market has priced in a lot of bad news and as headlines continue to come out of Europe in the coming days it may just be noise.
Strengths
- Weekly initial jobless claims fell to 390,000, hitting a 7-month low.
- October import prices fell 0.6 percent on lower food and fuel prices. This was the first decline since July 2010 and may begin to help the consumer, just in time for the holidays.
- Wholesale inventories declined 0.1 percent in September as sales rose 0.5 percent. This is good news as the inventory supply chain still appears reasonably tight, offering hope that production lines will continue to run and possibly expand production.
Weaknesses
- We are seeing the economic data out of Europe deteriorate as German industrial production for September fell 2.7 percent and in Italy industrial production fell 4.8 percent. These are the biggest monthly drops since the global financial crisis began.
- China’s economic growth is also slowing as October industrial production rose 13.2 percent, which is very strong on an absolute basis but the slowest in at least a year.
- The European Central Bank (ECB) commented that the European governments should do more to fix the current crisis and not rely on the ECB.
Opportunities
- After a slow week this week, economic news flow picks up next week with key inflation data, Producer Price Index (PPI) and Consumer Price Index (CPI), October retail sales and October industrial production. U.S. data has generally been better than expected in recent weeks and if the trend holds next week we could begin to see a sentiment shift among investors.
Threats
- The situation in Europe remains extremely fluid and negative news is almost expected at this point. Unfortunately, the situation is politically driven and it is difficult to predict outcomes and ramifications.
