The Market Today
Powell Strikes a Hawkish Tone – Market Now Projecting Three Hikes in 2018
by Craig Dismuke, Dudley Carter
Powell Strikes a Hawkish Tone When Talking About His Personal Outlook: Fed Chair Powell sounded a bit hawkish in his first appearance before Congress when describing how his outlook has changed since the Fed last published projections in December. In summary, Powell said that in addition to tax reform and the February federal budget deal, incoming data has reflected further strengthening of the economy and given him increased confidence about inflation moving to target. All of this, he said will be considered as members sharpen their pencils to refresh their projections in March. On tax reform, he limited his remarks to say that fiscal policy has become more “stimulative” and “lower corporate taxes should lead to higher investment… Higher investment should lead to higher productivity over time. Higher productivity should lead to higher wages over time.” He did caution that “[the Federal Government] really need[s] to get on a sustainable fiscal path.” Powell said the market’s response to the balance sheet roll-off was so far so good and he had “little inclination” to change the structure of the plan when pressed on if the Fed would consider outright selling of assets. His belief is that in three to five years the Fed will wind up with a portfolio consisting primarily of Treasurys that is somewhere in the neighborhood of $2.5-$3T. He barely addressed the early-February volatility, calling the event “orderly”, and said later “The stock market is not the economy but it plays a factor in it.” Overall, the upbeat tone was consistent with the messaging in the January Minutes that reawakened markets to a Fed likely to hike three times this year and could begin to debate a fourth.
After Fed Chairman Powell’s testimony to Congress yesterday, we continue to see him as less skittish than his predecessors on hiking rates. The Fed Funds futures market reflects the changing attitude of investors when comparing year-end futures contracts (2 hikes in 2018 and 1 in 2019) to current contracts (3 hikes in 2018 and 1 ½ priced in to 2019) (see Chart of the Day). It is still important to keep the longer-term outlook in mind – the expectation that this rate cycle will be much more shallow than previous cycles. Fed Funds futures expectations cap out around 2.625% and the Fed is projecting a longer-run neutral rate of just 2.75%.
4Q GDP Sees Very Small Revision; Pending Home Sales Due: GDP growth in 4Q was revised down from 2.6 to 2.5% in the first revision. There were very few moving parts to the revision. Personal consumption held firm at a solid 3.8%. Business investment was revised down fractionally while residential investment was revised up a touch. The biggest change was a small, downward revision to inventory accumulation. At 9:00 a.m. CT, the January Pending Home Sales report is expected to show a 0.5% MoM increase in sales.
Yesterday – Powell Pushed Rates Higher, Stocks Lower: As expected, Tuesday’s major focus was on comments from Jay Powell in his first congressional testimony on monetary policy since taking the reigns as Fed Chair earlier this month. After reading through his prepared remarks (released and digested ahead of time), Powell got the market’s attention roughly 40 minutes in with his response to a question on what it would take for the Fed to hike four times this year. Yields moved quickly higher, with the 2-year yield climbing as much as 5.2 bps as fed funds futures priced in for the first time a roughly 100% chance of a third hike in 2018. The 5-year yield rose as much as 7.1 bps and the 10-year yield peaked at plus 6.0 bps. The move up in rates led stock prices lower but boosted the strength of the U.S. Dollar. The S&P began to slide and continued to sell throughout the afternoon and into the close, finishing down 1.27% and at its low of the day. The negative momentum helped pull Treasury yields down from their daily highs. The 2-year yield finished up 3.8 bps, the 5-year yield added 5.0 bps, and the 10-year yield rose 3.1 bps.
Overnight – Global Equities Back on Back Foot After U.S. Losses: Negative momentum that weighed on U.S. equities Tuesday bled into Wednesday’s global session. Most Asian indexes matched the more-than-1% losses for U.S. equities and the Stoxx Europe was down just under 0.4%. In addition to pressure from a positive Fed Chair Powell, Japanese retail sales and industrial production missed estimates and China’s manufacturing PMI fell to its lowest level since July 2016. Losses for European equities took the steam out of an initial rise in European sovereign yields. Also weighing, the YoY inflation in France fell 0.2% instead of holding at 1.5% as expected. The aggregate YoY core measure for the Eurozone held at 1.0% for a second month. The pull from European yields had longer Treasury yields near their overnight lows, with the 10-year yield down 1.5 bps. The 2-year yield, however, had barely budged. After the GDP revisions, the 2-year yield moved to up 1.0 bps and 10-year yield rose to down 0.5 bps. In currencies, the British pound underperformed after the EU released a hard-nosed draft Brexit Treaty bill.
Consumer Confidence Hit a New 17-Year High: The Conference Board’s February consumer confidence index rose notably more than expected, adding 6.5 points to print a more-than-17-year high of 130.8. Within the details, the assessment of the present situation was the strongest since March 2001 while the expectations index rebounded to near its best level of the cycle. The present situation index improved on better business conditions and a stronger summary of the labor market. The labor market differential, the percentage assessing jobs as plentiful (39.4%) minus the percentage assessing jobs as hard to get (14.7%), jumped to its highest level since May 2001. Looking forward six months, the strength in expectations was driven by the same forces as well as a more positive outlook for income growth. The excess percentage expecting incomes to increase over those expecting incomes to decrease hit its highest level since the metric began in 2006. It wasn’t all stellar news, however, with fewer consumers expecting to purchase an automobile and a smaller group looking for higher stock prices. The solid read on confidence should help keep the outlook for the consumer constructive, making it more likely the slower retail sales last month was a pause rather than the beginning of a sustained pullback.