The Market Today
Small Business Confidence Declines on Rising Inflation Concerns; Fed Positions in Focus
by Craig Dismuke, Dudley Carter
Small Business Confidence Declines on Rising Inflation Concerns, Supply Chain and Employment Anxieties Remain: Small business confidence surprisingly declined more than expected, down from 99.1 to 98.2. According to NFIB Chief Economist Bill Dunkelberg, “One of the biggest problems for small businesses is the lack of workers for unfilled positions and inventory shortages, which will continue to be a problem during the holiday season.” While difficulty in finding quality labor remained the single biggest obstacle for businesses, it pulled back from September’s record high level as a growing number of respondents cited inflation as their biggest concern.
Producer Prices Rise In-Line with Expectations: Producer prices rose 0.6% MoM in October, in-line with expectations, keeping the year-over-year rate unchanged at 8.6%. Food prices pulled back 0.1% MoM after rising almost 5% cumulatively over the previous two months. Energy prices rose another 4.8% MoM. Core prices excluding food, energy, and trade rose 0.4% MoM bringing the year-over-year rate up from 5.9% to 6.2%.
Fed Communications Continue: Fed Chair Powell (8:00 a.m. CT) and St. Louis Bank President Bullard (6:50 a.m.) will both be speaking again today. Additionally, we will hear from San Francisco Bank President Daly (10:35 a.m.) and Minneapolis’s Kashkari (12:30 p.m.) for the first time since the policy decision today.
OTHER ECONOMIC NEWS
Vice Chair Quarles Resignation Opens Door to Fed Makeover: Fed Vice Chair Quarles announced yesterday that he will resign from the Fed Board of Governors at the end of December. Quarles’s role as Vice Chair of Supervision officially ended at the end of October but he has continued to serve in that role absent a replacement appointed by the White House. There was some speculation Quarles might remain on the Board even after losing his leadership position. His departure will leave two Board vacancies at year-end. It is also expected that Vice Chair Clarida will not be reappointed by the White House when his term ends in January, leaving a third vacancy on the seven-member Board. Adding to the uncertain picture at the Fed, the White House has not announced a decision on reappointing Fed Chair Powell, although sentiment is currently tilted toward this outcome.
President Biden Interviews Brainard for Top Fed Position: Fed Governor Brainard interviewed for the Fed Chair position last week during a visit to the White House, according to news reports published Monday evening. Brainard was believed to be the most likely candidate should Chair Powell, the current odds-on favorite, not be reappointed. Brainard is also believed to be a top candidate to lead the Fed’s supervisory efforts after Governor Quarles’s term as Vice Chair of Supervision expired in October.
Fed’s Bullard Says Tapering Could Be Quickened if Needed; Sees Two 2022 Hikes: St. Louis Fed President Bullard, the most openly hawkish official and a 2022 voter, said last Friday’s jobs report provided further evidence that the labor market is “one of the hottest” in recent memory. Notably, Bullard isn’t expecting much improvement in labor participation which could drive unemployment below 4% in the first quarter. Bullard said the Fed’s tapering plans provide optionality for ending purchases sooner than expected if needed to combat inflation and noted he currently expects two rate increases next year.
Governor Clarida Signals Support for September’s Median Rate Path: Fed Vice Chair Clarida said “we are clearly a ways away from considering raising interest rates” but believes the tests for liftoff, including full employment, will be met late next year. Supply imbalances are “substantial” in several sectors of the economy but “should dissipate over time.” Nonetheless, current inflation levels are inconsistent with the Fed’s mandate and would be problematic if they persisted through next year. If the economy evolves as he expects, a rate path similar to the median from September’s projections would “be entirely consistent” with the Fed’s new average inflation targeting framework.
Fed’s Evans Sees Longer-Term Inflation Expectations “In Line With or Even a Bit Below” Target: Chicago Fed President Evans said it’s hard to know how long supply imbalances will last and acknowledged signs that inflation is broadening out. However, he continues to expect high inflation will moderate eventually and, importantly, believes longer-term inflation expectations are at or below levels consistent with the Fed’s target. Additionally, there is still “a way to go” to meet the Fed’s “inclusive employment mandate.” Evans clarified that tapering “does not imply any direct signal” for rate hikes and expects liftoff to occur in 2023. Despite upside risks, “it looks like we are in for a low rate environment for some time to come.”
Fed’s Harker Expects Inflation to Ease, But Monitoring Upside Risks: Philadelphia Fed President Harker said that inflation pressures have become more widespread across the economy but noted that his baseline expectation is for inflation to step down from high levels next year as supply disruptions clear up. However, he is “acutely aware that this period of rising prices is painful for many Americans” and noted that the Fed is “monitoring inflation very closely and are prepared to take action, should circumstances warrant it.”
Fed’s Senior Loan Officer Survey for October reported generally easier lending standards across commercial & industrial, commercial real estate, most residential real estate categories, and other types of consumer loans. The demand picture was more mixed. While other categories saw increased demand, reported interest in commercial & industrial loans to smaller firms, construction and land development loans, and residential real estate loans was generally unchanged. Demand for consumer credit not tied to real estate was described as mixed. Looking ahead, the report said banks expected interest in commercial & industrial and credit card loans to pick up over the next six months.
Fed Sees Risks in Some Asset Valuations: The Fed said in its November Financial Stability Report that “prices of risky assets generally rose further” since the last update in May. More generally, “asset prices were supported by increased earnings expectations and low Treasury yields.” Adding a note of caution, the report said, “Asset prices remain vulnerable to significant declines should investor risk sentiment deteriorate, progress on containing the virus disappoint, or the economic recovery stall.” The assessment of leverage in the private sector was more encouraging. “Business and household borrowing as a percentage of gross domestic product (GDP) decreased further,” the report noted.
Stocks Hit New Records Despite Yields Rebounding and Inflation Expectations Rising: The Dow rose 0.3% Monday while the S&P 500 and Nasdaq inched up by less than 0.1%, all three setting a new all-time high. The S&P 500 and Nasdaq have now posted eight consecutive daily gains (all record highs), the longest winning streaks since October 2017 and June 2020, respectively. Caterpillar shares led the Dow, with some attributing the company’s 4.0% jump to the House passing the infrastructure bill last Friday after markets closed. Industrials were also accretive to the S&P 500, although materials and energy led the way. A recovery in interest rates hurt utilities but boosted financials by 0.5%. After diving Friday despite the stronger-than-anticipated jobs report, Treasury yields recovered higher to start the week. Shorter and intermediate maturities led gains and recoupled Friday’s declines after a 3-year auction tailed. The 2-year yield added 4.2 bps to 0.44%, the 5-year yield rose 6.1 bps to 1.12%, and the 7-year yield added 5.6 bps to 1.37%. The 10-year yield increased 3.8 bps to 1.49% while the 30-year yield slipped 0.5 bps to 1.88%. The curve flattening coincided with inflation expectations rebounding to near recent highs; the 30-year inflation-protected Treasury bond yield fell to a record low of -0.51%.
U.S. equity futures spent most of overnight trading holding near yesterday’s record closes as Treasury yields continued to swing, pulling back ahead of this morning’s producer price inflation report. Amid another mixed global session, S&P 500 futures were less than 0.1% changed at 7:15 a.m. CT. Treasury yields were holding overnight declines that began just before 8 p.m. CT Monday on a report that the White House had interviewed Governor Brainard for the Fed Chair position and were further supported by declines in European yields. Heading into the PPI inflation report, the 2-year yield was 2.0 bps lower at 0.42%, the 5-year yield was down 2.3 bps to 1.09%, and the 10-year yield had dropped 2.6 bps to 1.47%. The curve was marginally flatter after the as-expected inflation report.