The Market Today
FOMC Looks through Weaker Inflation, Presses Onward; Morning Economic Data Good
by Craig Dismuke, Dudley Carter
Today’s Calendar – Morning Data Fares Well for 2Q GDP Tally: In a morning with several important economic releases, the data was very positive for 2Q GDP growth collectively. June’s durable goods orders report showed a big month for non-defense aircraft and, more importantly, a good report on business investment. Non-defense aircraft orders rose 131% driving the headline durable goods number up 6.5% MoM; however, excluding those aircraft, orders rose a smaller 0.2%. The better news came from the capital goods orders/shipments data, the indicator of business investment in equipment, which both showed a better-than-expected two-month tally. Capital goods orders fell 0.1% in June but the May data were revised up from +0.2% to +0.7%. Shipments of those items rose 0.2% in June while the May data were revised up from +0.1% to +0.4%. Including both the May (revisions) and June data, capital goods shipments now point to business investment in equipment rising 4.2% in 2Q versus 3.1% after the May report.
June’s advance goods trade balance showed a $1.6 billion smaller deficit in June than expected. With goods being the largest component of the trade balance, this points to a better external trade contribution to the 2Q GDP report. Wholesale and retail inventories were both strong with wholesale inventories rising 0.6% MoM (+0.3% expected) and retail inventories also rising 0.6%. An inventory rebound is expected to be one driver of 2Q GDP and the June data points this being slightly better than expected. Initial jobless claims for the week ending July 22 rose from 234k to 244k, continuing to point to a very solid labor market. At 10:00 a.m. CT, the Kansas City Fed’s Manufacturing Activity Index is expected to show a small uptick in activity.
Fed Buys Time on Rate Hikes but Primes the Pump for Balance Sheet Normalization: As expected, the Fed voted yesterday to leave rates unchanged at 1.00% to 1.25%. Also as expected, the focus was on the outlook for inflation and the timing of balance sheet normalization. In describing recent trends in inflation, the Statement noted inflation measures “have declined” and are “running below 2 percent,” removing June’s qualifier of “somewhat” below 2%. However, they were not compelled to alter their policy language because of the weaker inflation, saying that they continue to expect YoY inflation to stabilize around target over the medium term. On the balance sheet, the Fed noted that “for the time being” reinvestments will continue unchanged but normalization is expected to start “relatively soon” (“this year” in the June Statement). The “relatively soon” timing has been a key phrase for Fed officials recently to hint at pending action and implies a possible announcement at the September meeting. Bottom Line: The Fed appears to have signaled a September announcement on balance sheet normalization and elected not to alter the inflation outlook (yet) in the Statement. As such, upcoming Fedspeak will be key for attempting to decipher what the Committee’s take truly is on inflation, and thereby future rate hikes.
Overnight Activity – Global Yields Respond to Fed’s Decision, Equities Remain Focused on Earnings: Global equity and sovereign markets, which were closed Wednesday by the time the Fed announced its latest policy decision, show a mixed response to the updated FOMC Statement. European equities are lower after a positive start in Asia. The mixed performance for European equities played out on what some analysts said is the busiest day for European corporate earnings. European sovereign yield curves are playing catch up to yesterday’s shift in Treasurys and are flattening on lower yields; Germany’s 10-year yield is down 3.0 bps. Longer Treasury yields recovered a portion of yesterday’s drop with the 10-year yield up 1.4 bps to 2.30%. After threatening its June 23, 2016 intraday low, the Dollar climbed back into positive territory for the day. After rising more than 6% in the first three days of the week, oil prices fell Thursday even as U.S. data showed a big weekly draw of petroleum products that took total crude stocks to their lowest level in six months and total product stocks to the lowest level since March 2016.
Yesterday’s Trading Activity – Fed Decision Drops Treasury Yields and the Dollar: U.S. stocks closed higher Wednesday as the Treasury curve flattened on lower yields and the Dollar sank to a new 15-month low. All the moves occurred after the Fed elected to leave rates unchanged and signaled a potential September announcement of the start date for balance sheet normalization (more below). While the Fed’s latest decision was the primary driver of rates and currencies, stocks were equally impacted by another round of corporate earnings. The Dow outperformed with a 98-point, or 0.5%, gain thanks almost exclusively to a 143-point positive contribution from Boeing. More broadly, stocks were mixed as indicated by the S&P adding less than one point, or 0.03%. Treasury yields had already moved lower after an auction of 5-year notes elicited strong demand but the biggest move occurred immediately following the Fed’s announcement. On the day, the 2-year yield fell 4.0 bps to 1.36%, the 5-year yield dropped 6.0 bps to 1.83%, and the 10-year yield shed 4.6 bps to 2.29%. The Dollar tracked yields lower, touching its weakest level since May 3, 2016. In addition to the Fed decision, the Dollar was also under pressure after hawkish comments from an ECB Governor boosted the Euro.
New Home Sales Rose in June but Continue Trend of Slowing Improvement: June’s new home sales data continued the story of a slowing improvement for the overall housing sector. Sales of new homes did improve in June when compared to May 2017 and June a year ago. However, there was a negative revision of 27k to the three months prior (March, April, May) which left the total trajectory a little weaker than previously estimated. Supporting the story of slowing improvement, total sales were up 6.4% in 2Q 2017 when compared with 2Q 2016 but down 12.3% on a seasonally adjusted annualized basis when compared to 1Q 2017.