The Market Today
Bank of England Hikes Rates on Heels of Hawkish Fed Decision
by Craig Dismuke, Dudley Carter
Housing Starts Hit Highest Level Since 2006: Housing starts and building permits both beat expectations in February. Housing starts rebounded 6.8% to 1.77mm (expected 1.70mm) following a 5.5% decline in January. February’s pace marked the strongest month for starts since June 2006. Single family starts rose 5.7% while multi-family activity jumped 9.3%. Building permits fell 1.9% in February to 1.86mm, edging out expectations for a slightly larger decline to 1.85mm and holding near the top-end of a multi-year range. Single family activity pulled back 0.5% after an unusually strong 7.5% surge in January. Multi-family permits fell 4.4% in February after a 9.9% drop in January that came on the heels of a 23.9% spike in December.
Jobless Claims Beat Expectations: Initial jobless claims fell from 229k to 214k in the week ended March 12, beating expectations for more modest improvement to 220k. Except for weekly readings from last December and one from November, which were likely skewed by seasonal adjustments, the level of new claims is the lowest reading since prior to the pandemic. Non-seasonally adjusted claims fell 17k to 203k, the second lowest since before the pandemic. For the week ended March 5, continuing jobless claims dropped more than expected from 1.490mm to 1.419mm, the lowest level since February 1970.
Philadelphia Fed Index Recovers Unexpectedly: The Philadelphia Fed Business Outlook Index recovered unexpectedly in March on firm underlying details. The headline rose from 16.0 to 27.4, holding below stronger levels from 2021 but beating expectations for a slide to 14.5. New orders and shipments both rose and the employment index to a new all-time high in records reaching back to the 1960s. Less encouraging, supplier delivery delays were the second worst of the pandemic and prices paid matched its worst level of the pandemic.
Hawkish Fed Sends Strong Signal – Faster Rate Hikes and Restrictive Policy Needed to Tame Inflation
The Decision and Statement: The Statement announced the expected 0.25% hike to a range of 0.25% to 0.50% but revealed that Fed President Bullard dissented in favor of a 50-bp hike. Rising energy prices and broadening pressures were added alongside economic imbalances as factors keeping inflation high, with additional upside risk posed by the war in Ukraine. The Fed said it “anticipates that ongoing increases in the target range will be appropriate” and expects to begin shrinking its balance sheet “at a coming meeting.”
Updated Economic Projections: New projections rightly reflected a higher near-term inflation outlook. Estimates of headline (from 2.6% to 4.3%) and core PCE (from 2.7% to 4.1%) for the end of 2022 were revised up significantly and remained higher over the horizon than previously expected, both moderating to a still-above-target 2.3% at the end of 2024. As a result, GDP growth in 2022 was revised down from 4.0% to 2.8% (central tendency from 3.6-4.5% to 2.5-3.0%) but somewhat confoundingly left unchanged in future years.
Updated Dot Plot: The Statement’s hawkish tone and the forecast for persistently strong inflation over the next several years were manifested in an unmistakably more hawkish dot plot. The median official now expects rates to end 2022 at 1.75% to 2.00%, up from a range of 0.75% to 1.00% in December’s forecast and the equivalent of a market-matching six additional quarter-point hikes this year; seven officials projected a rate above the median while four projected a rate below the median. The forecast now reflects a year-end 2023 (and 2024) target rate of 2.75%, indicating the possibility of three or four hikes next year. Notably, the projected path would put the fed funds rate in restrictive territory sometime next year, above the Fed’s estimated neutral rate which was revised down from 2.50% (median) to 2.375%, the lowest since the Fed began publishing projections in 2012.
Powell Pledges to Restore Price Stability: Fed Chair Powell didn’t shy away from the hawkish signaling. He wouldn’t directly answer questions about whether the newfound hawkishness was an admission that the Fed was behind the curve on inflation. Instead, his common refrain to questions related to inflation, and in some cases even questions that were not, was to vehemently pledge that the Fed would use its tools to restore price stability and prevent higher inflation from becoming entrenched. When questioned on whether such a rapid pace of tightening raised the risk of a Fed-induced slowdown, Powell noted that the Committee feels the economy can handle tighter policy and stated the obvious goal of not disrupting the recovery. Nevertheless, he reverted back to the pledge to restore price stability, calling it a pre-condition for sustained economic expansion.
OTHER ECONOMIC NEWS
Home Builder Confidence Falls Again amid Rising Rates: The NAHB’s Housing Market Index was revised down for February from 82 to 81 and shed another two points in March to 79, disappointing expectations of 81 and the lowest level in six months. Prospective buyer traffic picked up after two monthly declines while the current sales outlook weakened modestly. The biggest drag, however, came from the largest decline in the six-month sales outlook since April 2020 to the lowest level since June 2020. “Builders are reporting growing concerns (up 20% over the last 12 months) and expected higher interest rates connected to tightening monetary policy will price prospective home buyers out of the market,” the NAHB’s top economist said in a statement, adding “The impact of elevated inflation and expected higher interest rates suggests caution for the second half of 2022.”
Rates Reprice for Faster Fed Tightening: Treasury yields had risen and were near session highs ahead of Wednesday’s Fed decision as market expectations for policy tightening this year quietly crept up to their most hawkish position yet. Despite those moves, the major stock indices were comfortably in positive territory, supported by strong gains overnight in both Asia and Europe. China-linked stocks had rebounded sharply on market-friendly remarks from Chinese government officials and European had notched healthy gains on hopes reports of progress in peace-talks between Russia and Ukraine might still be able to bring a diplomatic end to the military conflict. Not surprisingly, volatility picked up immediately following the Fed’s rate hike in what was an inarguably hawkish decision. With the Fed now forecasting seven rate hikes for all of 2022, fed funds futures repriced to reflect a 75% possibility of an eighth. The 2-year Treasury yield soared as high as 2.00% before settling back to 1.94%, an 8.9-bp increase. The 5-year yield flew as high as 2.24%, moving above the 10-year yield for just the first time since March 2020 and just the second time since 2007. By the close, the 5-year yield had pulled back to 2.181%. The 10-year yield ended 4.1 bps higher at 2.185%. Despite the hawkish Fed decision, the rapid jump in those Treasury yields to their highest levels since May 2019, and inversions along portions of the Treasury curve, stocks added to gains in the afternoon and closed near session highs. The S&P 500 rose 2.2%, dividing a smaller 1.6% gain for the Dow and a day’s best 3.8% jump for the Nasdaq.
U.S. markets unwound a portion of their post-Fed moves overnight. Following another strong rally for equities in Asia and mixed performances across Europe, U.S. equity index futures were between 0.3% and 0.4% lower at 6:30 a.m. CT. While Treasury yields had given back some of yesterday’s rise, the curve continued to flatten. Before the Bank of England’s policy decision, the 2-year Treasury yield was essentially flat at 1.94% with the 10-year yield 4.6 bps lower at 2.14%, the spread between the two falling below 20 bps for the first time since March 2020. As expected, the Bank of England raised its target rate by 25 bps to its pre-pandemic level of 0.75%, marking its third rate increase since the central bank cut rates to a record low of 0.10%. Officials believe inflation could average around 8% in the second quarter and move even higher beyond, in large part because of higher energy prices, which will also weigh on growth. U.K. yields fell sharply after the decision as markets pared bets for additional tightening. One voter dissented in favor of keeping rates unchanged and the statement said further tightening “may be appropriate,” softer than the “is likely to be appropriate” language from February.