The Economy and Bond Market Radar (June 2, 2014)

The Economy and Bond Market Radar (June 2, 2014)

Treasury bond yields resumed their fall this week. This was particularly true on Wednesday when 10-year Treasury yields fell 7 basis points and traders and analysts were hard pressed to explain exactly why. The most plausible explanation seemed to be money flows into Treasuries from Europe and more specifically eurozone banks. These banks are moving money ahead of the ECB’s policy decision next week, which could lead to negative interest rates on excess reserves held at the central bank.

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Strengths

• Durable goods orders in April were much better than expected, especially considering that March was revised significantly higher. This bodes well for the economic snap back story in the second quarter after posting lackluster economic results as poor weather conditions had a significant impact on activity.
• Consumer confidence improved modestly in May as both the Conference Board’s consumer confidence index and the University of Michigan survey of Consumer confidence showed modest increases.
• Initial jobless claims fell by 27,000 last week and while the data can be lumpy week-to- week, the trend remains lower.

Weaknesses

• First quarter GDP fell one percent. On the surface this sounds terrible but virtually all of the negative revision was in inventories (weather related), which will likely be built during the second quarter.
• Housing data continues to be mixed but the trend is a bit worrying. Mortgage loan applications fell for the third straight week and a Freddie Mac index indicated that less than half of the housing markets surveyed were improving, vs. 90 percent last year. Pending home sales were also disappointing in April and fell 9.4 percent year-over-year.
• Personal spending fell 0.1 percent in April, which was the first decline in a year.

Opportunities

• All eyes remain fixed on the ECB’s June 5 meeting, as the ECB is expected to ease monetary policy by potentially taking the rate on excess reserves at the central bank into negative territory.
• With a heavy calendar of economic data out next week, key indicators to watch include ISM manufacturing on Monday and the employment report on Friday.
• There are many moving parts to the taper decision and while the Fed began the process it is very possible that tapering could be delayed if the economy stumbles.

Threats

• Long-term bonds have posted strong returns year to date and with economic data looking supportive, a modest sell-off wouldn’t be surprising.
• While the ECB is moving toward easing, UK policy makers at the Bank of England are considering raising interest rates as the housing market has been very strong along with retail sales.
• Housing data remains mixed and the spring selling season has disappointed so far. If activity doesn’t pick up soon, housing may not be the positive catalyst many were expecting for 2014.