The Economy and Bond Market
Treasury yields rallied sharply again this week after last week’s surprise announcement from the Fed that it did not begin tapering its quantitative easing (QE) program. Economic data was mixed this week, but obviously the market felt comfortable enough with the Fed’s position to rally. The 10-year Treasury has rallied about 40 basis points after peaking near 3 percent at the beginning of September.
Strengths
- The market is gaining confidence that the Fed may not taper its QE program until a new chair is in office, which would likely be early next year.
- New home sales bounced back in August, growing 7.9 percent. The spike in mortgage rates in recent months had weighed on the market.
- Household net worth rose 1.8 percent in the second quarter, which equates to $1.341 trillion. This wealth effect has a positive influence on economic growth and spending.
Weaknesses
- Consumer confidence stagnated in September, as economic expectations moderated.
- Private foreign investors reduced the amount of treasuries owned by $1.59 trillion in the second quarter for the first time since 2009. Foreign governments and institutions also cut their exposure by more than $4 trillion.
- Uncertainty over Obamacare implementation and the looming debt-ceiling impasse is likely having an impact on business decisions.
Opportunity
- Despite recent conflicting commentary, the Fed continues to remain committed to an overall accommodative policy and is unlikely to raise interest rates in 2013 or 2014.
- Key global central bankers remain in easing mode such as the European Central Bank, Bank of England and the Bank of Japan.
- Economic data hasn’t instilled a lot of confidence lately and the bond market rally that started three weeks ago may still have some room left to run.
Threat
- Inflation in some corners of the globe is getting the attention of policymakers and may be an early indicator for the rest of the world.
- Trade and/or currency “wars” cannot be ruled out which may cause unintended consequences and volatility in the financial markets.
- The recent bond market selloff may be a “shot across the bow” as the markets reassess the changing macro dynamics.
