The Market Today
ISM Report Assuages Fears but U.S.-Mexico Negotiations Yet to Bear Fruit
by Craig Dismuke, Dudley Carter
75th Anniversary of D-Day: According to a U.S. Army site commemorating the day, “On June 6, 1944, more than 160,000 Allied troops landed along a 50-mile stretch of heavily-fortified French coastline, to fight Nazi Germany on the beaches of Normandy, France.”
U.S. Mexico Border Security Talks Continue: A second day of talks between U.S. and Mexican officials will be in focus. The prospect of escalating tariffs on Mexican imports, the second-largest importer to the U.S, has undermined confidence and growth forecasts. Any sign of a resolution will likely result in a relief trade.
Trade, Productivity, and Labor Costs: The April trade deficit shrunk from a revised-larger $51.9 billion to $50.8 billion. The revision will hurt 1Q GDP revisions but the shrinking deficit will help 2Q’s GDP tally. The final revision to 1Q nonfarm productivity was dropped from +3.6% to +3.4%, still a uniquely strong quarter for productivity during this cycle. Unit labor costs were slashed from -0.9% to -1.6%, another indicator that inflation pressures remain modest despite the tight labor market.
Initial Jobless Claims Remain Encouraging: Initial jobless claims for the week ending June 1 held steady at 218k and continue to point to a strong labor market. Tomorrow’s nonfarm payroll report from the BLS will be particularly important given the recent breakdown in trade talks and the shockingly bad ADP report on Wednesday.
Fedspeak: Dallas Fed Bank President Kaplan is scheduled to make remarks this morning. Kaplan is not a voting member this year but has been a centrist. New York Bank President Williams will speak at 2:00 p.m. CT but is scheduled to discuss international economics. San Francisco Bank President Daly is scheduled for comments in Singapore at 3:00 p.m.
Overnight Trading – Markets Calm as ECB Extends Low-Rate Guidance: Shortly after the market close, CNBC reported that U.S. and Mexican officials had not reached a deal to avert tariffs, causing a sharp drop for U.S. stock futures and the Mexican peso. President Trump tweeted at 5:42 p.m. CT that “talks with Mexico will resume tomorrow with the understanding that, if no agreement is reached, Tariffs at the 5% level will begin on Monday.” However, the ship steadied as global trading progressed with U.S. stock futures up slightly coming into the morning session. The final revision to 1Q GDP in the Eurozone was unchanged at +0.4% (+1.6% QoQ, SAAR). More important was the ECB’s decision to extend its forward guidance regarding when rates might increase. The Governing Council’s policy statement said that they now expect “rates to remain at their present levels at least through the first half of 2020, and in any case for as long as necessary,” extending their language from the end of 2019. Economists covering the Eurozone seem to be disappointed that 1) the statement reduces the chance of a rate cut and 2) the ECB’s cheap loan program (TLTRO 3) has less generous terms than previous loan programs (previously announced). ECB President Draghi’s will now host a press conference which could produce market-moving headlines.
Yesterday’s Trading – Markets Fluctuate on Trade Policy, Positive Economic Data: Treasury yields fell yesterday after the ADP report disappointed expectations and elevated fears that the economic malaise was spreading to the labor market. The 2-year Treasury yield sank to 1.77% while the 10-year yield dropped to 2.08% shortly after the report. However, positive news from the ISM report (more below) and positive headlines from negotiations between U.S. and Mexican officials eased market fears a bit. Additionally, the Fed’s Beige Book report showed the economic activity was expanding at a “moderate” pace overall and that almost all Fed districts reported “some growth.” There were some signs in the report that trade policy was hurting activity, but the overall sense was that growth remained positive. By the end of the day, the 2-year yield had risen to 1.86% with the 10-year yield up to 2.13%. The S&P rose 23 points to 2,826 (+0.8%) while the Dow jumped 207 points to 25,539 (+0.8%), ending the best two-day gains for stocks since January.
ISM Non-Manufacturing Index Brightens Outlook: The May ISM Non-Manufacturing index beat expectations, rising from 55.5 to 56.9. The index was expected to drop after a string of disappointing PMIs pointed to deterioration in business sentiment amidst the breakdown in trade negotiations. The previously released Markit Services PMI fell from 53.0 to 50.9 in May, the weakest reading since 2016. However, the ISM index did not show the same deterioration. The sub-indices for business activity, new orders, inventories, and employment all rose. Combining the ISM’s manufacturing and non-manufacturing indices, the composite index now points to GDP growth decelerating from 3.2% to 2.3%, but remaining positive.
Fed’s Policy Framework Conference Concludes: The Fed’s first conference designed to review policy framework concluded yesterday. Fed officials are reviewing their current monetary policy framework – how they achieve maximum employment and stable inflation – to determine the most effective tools and processes for meeting their dual mandate. According to JP Morgan’s chief economist, “Our general sense is that the conference was broadly supportive of accommodative policies. … The conference overview paper made the case that the Fed’s use of unconventional policies was successful in speeding the recovery from the Great Recession.” Officials are expected to stake their positions on a host of topics in coming months with a goal of concluding their review in the first half of next year.
WSJ – Rate Cuts Aren’t as Certain as Markets Think
Interest rate expectations have changed dramatically, despite few concrete signs of change in the economic outlook