The Market Today
FOMC Statement Acknowledges Weak Inflation, Powell Sees It as Transient
by Craig Dismuke, Dudley Carter
Labor Data Remains Positive with Slivers of Concern: The April Challenger Job Cuts report showed a 34% MoM drop in new job cut announcements, but an 11% increase from last April. According to the release, “While the lower number of cuts last month is certainly a good sign, and we saw a huge hiring announcement in the Retail sector from McDonald’s last month, we are still seeing more than a 30% increase in cuts over last year. The sectors that are making cuts could indicate trouble ahead.” Separately, initial jobless claims for the week ending April 27 held at the elevated 230k mark. While claims remain low, the recent uptick which now includes the non-holiday post-Easter week adds a sliver of concern.
Productivity Soars on Likely Unsustainable Output in 1Q: Nonfarm productivity jumped 3.6% in 1Q, the second-best quarterly performance of the cycle. However, this rate is based on output of 4.1% during the quarter which was arguably an inflated reading based on unsustainable jumps in inventories and external trade. With hours worked rising just 0.5%, the productivity of workers rose 3.6%. However, using real final sales as a baseline for economic activity in 1Q, productivity would have risen a more trend-like 1.8%. Nonetheless, the 4Q average for productivity jumped to 2.4%, the fastest pace of the expansion. Unit labor costs fell an equally surprising 0.9% in 1Q bringing the 4Q average down to +0.1%, the slowest growth rate in fives years and another indicator of weak inflation pressure.
Factory Orders and Business Investment: The March factory order data will be released at 9:00 a.m. CT along with the final revision to March’s durable goods order data.
Yesterday – Market’s Dovish Take Proved Transient as Powell Suspects “Transitory” Inflation Weakness: Markets were whipsawed Wednesday as investors responded to corporate earnings and disappointing economic data, but the sharpest volatility occurred after the Fed’s afternoon decision. Apple topped earnings Tuesday after markets closed, giving a boost to U.S. futures overnight that led to a gap higher for equities at Wednesday’s open. The gains withstood a couple of disappointing economic reports (more below) and had re-emerged from midday weakness headed into the Fed’s announcement. Treasury yields rose with the early strength in equity futures, pulled back after the weaker economic data, and were lower as the Fed headlines hit. The Statement had a stronger assessment of growth but highlighted the recent weakness in inflation. Combined with a 0.05% cut to the IOER to 2.35%, investors cheered the Fed’s dovishness, pushing stock prices higher and sending Treasury yields tumbling. However, the market’s dovish digestion of the Fed’s Statement proved transient as Chair Powell said “We suspect that some transitory factors may be at work” and behind inflation’s weakness. The S&P 500 fell from up 0.2% on the day to end down 0.8%. Treasury yields spiked higher, with the 2-year yield ending up 3.8 bps at 2.30% after falling as low as 2.20% immediately after the Fed’s announcement. The 10-year yield ended almost unchanged at 2.50% after reaching as low as 2.45%. The Dollar rocketed higher and erased an earlier decline.
Overnight – Bank of England Holds But Keeps Mostly Upbeat Outlook: Treasury yields have added modestly to Wednesday’s Fed-related rise overnight, with most maturities inside of 30 years up between 1.5 and 2 bps around 7:15 a.m. CT. Stock futures, however, had reversed a small portion of yesterday’s steep afternoon decline leaving S&P 500 contracts higher by 0.1%. Stock markets in China and Japan remain closed, while the rest of Asia traded in different directions and the Stoxx Europe 600 slipped 0.4%. Despite the modest uptick in Treasury yields, global sovereign yields elsewhere pulled back after an initial move up and were unchanged to mostly lower. A round of April manufacturing PMIs for smaller economies in Asia and Europe were mixed and the Eurozone-wide reading was revised up 0.1 point to 47.9 on a positive revision to France and better-than-expected readings from Spain (51.8) and Italy (49.1). Germany’s PMI was revised down 0.1 point to 44.4. U.K. yields were an upside outlier in Europe following the BoE’s decision. The central bank lowered its near-term inflation forecast and forward path for interest rates and continued to cite Brexit as a key risk to the economy. However, they also nudged higher their growth outlook, said tightening policy “at a gradual pace and to a limited extent” would likely be needed to keep activity and inflation near potential, and Governor Carney said if activity matches the forecast it “will require more, and more frequent interest-rate increases than the market expects.”
ISM Manufacturing Slid to 30-Month Low, Construction Spending Fell Unexpectedly: The second wave of data Thursday was weaker than estimated as construction spending fell unexpectedly and the ISM’s manufacturing index dropped more than expected to a 30-month low. In March’s construction spending report, private nonresidential spending rose for a fourth month by a modest 0.5% while residential activity contracted for a third month in a row. The 1.8% drop in housing-related spending was driven by the eighth decline in single family home construction in the last nine months and a notable drop in home improvement spending. Public spending dropped 1.3%. The bigger market impact, however, came from the surprisingly weak ISM manufacturing index. The headline index fell from 55.3 to 52.6, well past the expected 55.0 and the weakest in 30 months (October 2016). The weakness was driven by greater-than-five-point declines in both new orders and employment, which both landed at their second weakest levels since 2016, and a 3.5 drop in production to its lowest level since 2016. Inventories and supplier delivery times made minor, offsetting positive contributions to the headline.
Fed’s Statement Highlighted Inflation’s Decline but Fed “Suspects” It’s “Transitory”: The FOMC voted unanimously Wednesday to keep its overnight target rate range at 2.25% to 2.50% and retained its expectation to be “patient” with future rate decisions in light of global uncertainty and muted inflation. However, they did make a “small technical adjustment” to the IOER rate, lowering it 0.05% to 2.35% in order to “foster trading in the federal funds market at rates well within the FOMC’s target range.” The Statement upgraded the economic assessment by saying that “economic activity rose at a solid rate” since they met in March, but acknowledged that “overall inflation and inflation for items other than food and energy have declined and are running below 2 percent.” In his opening remarks at the press conference, Chair Powell echoed that sentiment, saying “Economic growth and job creation have both been a bit stronger than we anticipated, while inflation has been somewhat weaker.” He sounded an upbeat tone on the economic environment both at home and abroad, but it was his take on inflation that caused the sharp reversal of the market’s initial dovish interpretation. Powell said, “Core inflation unexpectedly fell as well…and as of March stood at 1.6 percent, …We suspect that some transitory factors may be at work.” He repeated that sentiment during Q&A, choosing to describe the slower inflation as “transient” on several occasions.
ICYMI – April 2019 Monthly Review: The S&P 500 rose 3.9% and set four new all-time highs in April, the first since September, as corporate earnings season started off better than expected and economic data offered hopes of stability, both at home and abroad. Treasury yields, however, rose more modestly as weak inflation reinforced expectations for the Fed to remain patient. Click here to see the full monthly review.