The Market Today

Stocks Close in on Pre-Comey Levels, Yields Remain Lower; President to Release Budget


by Craig Dismuke, Dudley Carter

Today’s Calendar – New Home Sales Expected to Pull Back,  Markit PMIs Expected to Rise:  New Home Sales for the month of April, released at 9:00 a.m. CT, are expected to pull back 1.8% from the strong March report.  If expectations are accurate, it would not reflect a concern, only the month-over-month volatility associated with economic reports.  The general trend for new housing would remain a bright spot for the sector.  At 8:45 a.m. CT, the preliminary May Markit reports on the manufacturing and services sectors are expected to show slight gains.  At 9:00 a.m. CT, the Richmond Fed’s regional manufacturing index is expected to pull back from a strong April report but remain relatively solid.  Also on the calendar today are speeches from Kashkari (prefers balance sheet adjustment to rate hikes), and Harker (prefers two more hikes this year).  Both Fed Bank presidents are voters this year.

 

President Trump to Release Optimistic Budget Laying out Priorities:  The White House is expected to release its first budget this morning.  Based on speculation, the budget is expected to cut mandatory spending by $1.7 trillion by reducing spending on Medicaid and social safety net programs such as food stamps (SNAP), disability, and others.  On the revenue side, it is expected to include revenue neutral tax reform rather than tax cuts.  Reportedly, the tax reform will be projected to increase GDP growth from 2% to an average of 3% over the next 10 years raising the obvious question of if this is truly feasible.  Based on the decline in government spending and the lack of decline in tax revenues, the budget is expected to show a balanced budget 10 years out.  This, in turn, would lead to less federal debt outstanding and a decrease in interest payments (another factor helping to balance the budget).  However, the linchpin of the entire budget, as reported, is the belief that there is enough inefficiency in the current tax system to cut economic growth by 33%.

 

Overnight Activity – Terror Attack in Manchester has Minimal Market Impact as European Data Shines: Although it’s had little enduring market impact, the major news overnight was another devastating terror attack in the U.K. A bombing at a concert in Manchester left more than 20 dead and nearly 60 injured based on current reports. As the news broke, there was an initial bid for haven assets such as Treasurys and the yen. However, much of that impact has faded and yields moved off of session lows as European equities were boosted by solid European economic data. The Eurozone’s Composite PMI held at a six-year high in May’s advance release and offered the latest data point that activity in the block remains steady. In France, the first PMI taken since the presidential election improved one point to a six-year high of 57.6. Germany’s PMI also improved and confidence at German businesses rose to its highest level on record (back to 1997). In response, European equities are leading global gains although European sovereign yields remain relatively stable and the common currency is weaker. U.S. futures are up 0.2% and Treasury yields remain below yesterday’s close by approximately 1 bp.

 

Yesterday’s Trading – Tech Takes Stocks to Third Consecutive Gain as Yields Rise and the Dollar Remains Weaker: U.S. stocks started the week with healthy gains as shares of tech companies continued to outshine others. The tech sector led the S&P 0.5% higher, a third consecutive gain, as the Nasdaq outperformed with a session-best 0.8% gain. The S&P ended just 6 points short of completely erasing last Wednesday’s loss that was the steepest for the index since last September. Energy was the only S&P sector to finish lower Monday despite crude prices gaining for a fourth consecutive session. Treasury yields closed higher but failed to add significantly to their early morning levels. The Treasury curve was only marginally steeper after a 1.2 bp increase in the 2-year Treasury yield (1.28%) and a 1.9 bp increase in the 10-year yield (2.25%). The Dollar remained weaker against a basket of major global currencies.

 

Silence from Harker and Kashkari: Monday’s Fedspeak that occurred while markets were open proved to be uneventful. Neither Harker nor Kashkari discussed monetary policy or the economy in their scheduled remarks.

 

In Monday Essay, Kaplan Wants Higher Rates, Smaller Balance Sheet: Dallas Fed President Kaplan published an essay on current economic conditions and monetary policy. Within the piece, he continued to call for two more rate hikes in 2017 (three total) and the commencement of balance sheet normalization within the current calendar year. Kaplan believes the softness in recent inflation readings isn’t indicative of a trend change but said he will look to incoming data for confirmation. He also believes the U.S. economy is “very close” to maximum employment. On potential collateral consequences of waiting too long to tighten further, Kaplan said doing so could cause “significant imbalances” that “are often easier to recognize in hindsight and can be very painful to address.”

 

Brainard and Evans Wrap Up Uneventful Day of Fedspeak: Fed Governor Brainard didn’t comment on policy or her outlook in her prepared remarks Monday night, but did answer a couple of audience questions on the economy. She is unsure whether or not the U.S. economy is at max employment although she acknowledged that measures of slack have fallen. As to the other half of the mandate, she sees little evidence of much progress on core inflation and specifically pointed to recent weakness in both CPI and PCE readings. Chicago Fed’s Evans was also mostly quiet on his current outlook and policy preference. He stressed the importance of the “do-whatever-it-takes” mindset of central banks in achieving their goals. He also stated that the Fed should be clear that its inflation mandate is a target, not a ceiling; a comment he has made on multiple occasions.

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