The Market Today
Fed Hikes, Lowers Dots, Disappoints Markets
by Craig Dismuke, Dudley Carter
Vining Sparks appeared on Fox Business’ Mornings with Maria today discussing the fallout from yesterday’s FOMC decision (more below). To see the full interview, click here.
Philly Fed Index Disappoints, Points to Weakest ISM Index of the Year: The Philadelphia Fed’s Business Outlook index fell unexpectedly from 12.9 to 9.2 (exp. 15.0). In the details, the indices for new orders and number of employees both rose while the prices paid index fell fractionally. The read on general business conditions six months from now rose 4.5 points after falling to its lowest level in over two years in November’s report. Combined with the disappointing Empire Fed report from Monday, the regional surveys now point to the weakest ISM Manufacturing Index of the year when December’s data is released.
Labor Market Still Looks Good: Initial jobless claims for the week ending December 15 rose 8k to 214k. While claims ticked up, they remained in the lower range (200k-220k) established in the second half of the year rather than bouncing back up to the elevated November levels. The labor data continues to look very solid.
Leading Index: At 9:00 a.m. CT, the November Leading Index is scheduled for release. Thus far, the leading indicators have been mostly positive. The biggest areas of concern have been the flattening of the yield curve and the drop in building permits. However, the majority of the LEI components have remained positive (see Chart of the Day).
Yesterday – Stocks Took Little Solace in the Lower Dots: Stocks were whipsawed by the Fed’s Wednesday decision (more below) and tumbled to new lows during Fed Chair Powell’s post-meeting press conference. The S&P 500 strengthened during morning trading, rising as much as 1.5% and reaching its daily peak on the final tick before the Fed’s Statement was released. The index briefly turned negative after the Statement said the Fed was keeping an eye on global developments but still expecting “some further gradual” rate increases. The S&P 500 had recovered before Fed Chair Powell stepped behind the podium and weathered his cautious opening remarks that referenced recently-emerged “cross currents” such as softer global growth, tighter financial conditions, and subdued inflation. However, stocks tipped over sharply about the time he dismissed the idea of making changes to the balance sheet normalization process. Powell said, “We thought carefully about this, on how to normalize policy and came to the view that we would effectively have the balance sheet runoff on automatic pilot, and use monetary policy, rate policy, to adjust to incoming data. And I think that has been a good decision. I think that the runoff of the balance sheet has been smooth and has served its purpose. And I don’t see us changing that.” The remainder of his attempt at reconcile Wednesday’s rate increase and forward projections with a more cautious outlook and supposed transition to data dependency failed to comfort investors. The S&P 500 fell 1.5% amid weakness in all 11 sectors and ended at its lowest level since September 2017. The Dow also fell 1.5% after earlier gaining as much as 1.6% and posted its lowest close since November 2017. While the roughly as-expected dot plot left the short-end essentially unchanged on the day (2-year yield +0.2 bps), the uncertainty created during the press conference dropped the 10-year yield by 6.3 bps to 2.75%, the lowest level since April 2.
Overnight – U.S. Assets Stabilize After Yesterday’s Fed Fallout: Selling in U.S. futures restarted as Thursday’s global session opened with most Asian indices tracking sharp losses stateside on Wednesday. Contracts on the S&P 500 bottomed at down 1.1% as Asian markets closed near their lows of the day. Japan’s Nikkei led all losses with a 2.8% tumble while other indices in the region registered more moderate declines. European markets sank on the first tick pushing the Stoxx 600 down as much as 1.8% in the first hour of trading. However, markets there have pulled off the lows and the Stoxx 600 had trimmed its daily drop by half. U.S. futures tracked that recovery back into positive territory and were more recently close to unchanged for the day. Two other central banks followed up Fed day with their latest policy decisions but the bigger news was still the fallout from yesterday’s decision by U.S. policy makers (more below). As expected, central bankers in Japan and the UK elected to leave policy unchanged. The Bank of Japan expects continued “moderate expansion” and inflation to move “gradually toward 2 percent,” but Kuroda said it’s still too early to talk about removing monetary stimulus. The Bank of England held on any changes, noting “The further intensification of Brexit uncertainties, coupled with the slowing global economy, has also weighed on the near-term outlook for UK growth.” Oil prices have reversed Wednesday’s gains with WTI down 3% and at a new low reaching back to August 2017. Brent crude broke below $56 per barrel for the first time since October 2017. Treasury yields were slightly higher after yesterday’s bull flattening. The 2-year (2.65%) and 10-year (2.76%) yields were up just under 1 bps and the 5-year yield (2.63%) had added 1.5 bps.
FOMC Decision – Inching Closer to Neutral: As expected, the FOMC hiked its overnight target rate range 25 basis points to 2.25-2.50%, the ninth hike of the cycle and the fourth of 2018, but only raised the rate it pays on reserves by 20 basis points to 2.40%. The Statement’s “strong” assessment of current economic was essentially unchanged. However, how that translates into monetary policy adjustments was modified. The Fed kept its risk assessment as “roughly balanced” with a new caveat that it would “continue to monitor global economic and financial developments,” presumably a nod to signs of slower growth and recent market volatility. However, they still expect “some further gradual increases” will likely be appropriate. The nod to growing risks lined up with lower growth and inflation forecasts for 2019 and the newly-inserted, softening “some” before the “further” was consistent with the lower dots. They lowered forecasted 2019 growth from 2.5% to 2.3% and core inflation from 2.1% to 2.0%. In addition, the labor market’s NAIRU rate was lowered 0.1% to 4.4% and 0.1% was added to forecasted unemployment for 2020 (3.6%) and 2021 (3.8%.) The net effect of the updated outlook was a lower projection for interest rates. The median forecast is now for two hikes in 2019, down from three in September, and one still in 2020. That equates to a current peak estimate of Fed Funds at 3% to 3.25%. The previous longer-run neutral rate estimate of 3.00% was also lowered one hike to 2.75%. In his press conference, Fed Chair Powell emphasized data-dependency and attributed yesterday’s hike to the strength of the economy in 2018. When pressed about continuing rates hikes in 2019 despite a fear of inflation ramping up, Powell had few answers other than citing the recent economic strength along with the positive outlook for 2019.
Existing Home Sales Topped Estimates in November, Were Down 7% From a Year Ago: Existing home sales rose unexpectedly in November for a second month in a row after posting six consecutive monthly declines and reaching the slowest pace in September since 2015. November’s 1.9% improvement from October easily eclipsed the modest 0.4% economists had expected and was supported by solid gains in three of the four regions: Northeast +7.2%, Midwest +5.5%, South +2.3%. Sales in the West, the third largest region by volume, sank 6.3% in the biggest monthly decline in three years. The 1.04MM unit annualized pace of activity in the West was the second slowest since 2010. Compared with November 2017, sales were down 7.0% marking the largest 12-month decline since 2011 and even after two months of recovery the annualized pace of 5.32MM units was the third lowest since early 2016. The median price edged higher to $257.7k and inventories totaled 1.74MM homes, both representing a 4.2% increase from a year ago.