The Market Today

Yields Pivoted Sharply Higher after Fed Assessment Reflects Transition Point

by Craig Dismuke, Dudley Carter


Initial Jobless Claims Rise for First Time in Six Weeks: Total continuing jobless claims across all available unemployment programs fell 560k in the week of May 29 to 14.8 million, a new low for the pandemic that reflects a string of weekly improvements in new jobless claims prior to that date. However, that positive run ended last week. Initial jobless claims rose 37k to 412k, the first increase in six weeks, while PUA claims were 47k higher than the week before to 118k. In the details, the rise in claims in regular state programs was driven primarily by a 16k increase in California and 22k increase in Pennsylvania; 20 additional states saw claims rise by much smaller amounts while 28 states posted offsetting declines. The rise in PUA claims was more broadly spread across the country. The trend in initial claims will be important to watch in the weeks ahead as many states end access to federal emergency programs, particularly in light of the Fed’s belief that a recent slowdown in hiring will prove short-lived.

Philly Fed’s Current Manufacturing Index Slips but Six-Month Outlook Hits Near 30-Year High: The Philadelphia Fed’s Manufacturing Outlook index dropped from 31.5 to 30.7, lower than the 31.0 expected and a four-month low. In mixed underlying changes, orders activity and less supply pressure were responsible for much of the softness as price pressures continued to intensify and employment remained strong. However, similar to the New York Fed’s Manufacturing report released earlier this week, businesses expect the current weakness to be transitory. The index of expectations for six months from now jumped to its highest level since October 1991 on broadly firmer details.



Yields Pivoted Sharply Higher after Fed Signals Recovery at a Transition Point: U.S. markets muddled through morning trading as investors waited for what was anticipated by many to be a key, potentially pivotal, Fed decision. Heading into the Fed’s 1 p.m. CT announcement, the S&P 500 had slipped 0.2% and the Treasury curve was modestly lower, with the 5-year and 10-year notes down 0.5 bps and 0.8 bps, respectively. However, volatility picked up immediately upon the announcement, with the biggest market driver news that the median Fed official now expects to hike rates twice in 2023, up from no hikes in the March projections (more below). Predictably, yields moved rapidly higher with the upward adjustment most severe for the 5-year Treasury note. By the close, the 5-year yield had added 11.5 bps to 0.895%, the sharpest increase since February 25 and highest yield since April 5. While the Fed’s new projections indicated a steeper forward path, lift-off was still expected at least 18 months from now at the earliest, a timeline that shielded the 2-year yield from an equally sharp increase. Reflecting that dynamic, fed funds futures inched up in the near-term, likely to reflect the Fed’s technical adjustment to its administered rates, but repriced more significantly in 2023. Nonetheless, the 2-year Treasury yield added 4.2 bps to 0.205%, its highest mark in just over a year. Longer yields also rose but by more modest amounts, consistent with the Fed’s economic projections signaling temporary inflation pressures and no change to the economy’s long-term potential growth. The 10-year yield added 8.3 bps to 1.575% and the 30-year bond inched up 2.1 bps to 2.207%. Although higher rates helped S&P 500 financials outperform, the sector still found itself among the 11 of 12 sectors that posted a daily decline. The broader index ended the day down 0.5%, halving its worst loss of the day that printed in the minutes after the Fed’s decision.

The response on Thursday of global equities to the Fed’s forecasting two rate hikes two years from now has been relatively benign. Most markets across Asia and Europe posted modest declines, but very few fell more than 0.5%. Global sovereign yields, however, have shot higher, mimicking the post-announcement adjustments for U.S. Treasurys. Ten-year yields rose 8.1 bps in the U.K., 3.5 bps in Germany, 7.1 bps in Italy, 1.5 bps in Japan, and 9.6 bps in Australia. Prior to the release of the weekly jobless claims report, Treasury yields had stabilized and were mixed, with the 5-year yield 0.8 bps higher while the 10-year yield slipped 0.5 bps lower. U.S. equity index futures were lower by between 0.2% and 0.4%.


Fed Assessment Reflects Transition Point:

The FOMC voted unanimously to keep its policy rate range at 0.00-0.25% and indicated it would continue to purchase $80 billion Treasury and $40 billion MBS securities per month until “substantial further progress” has been made.  As a technical matter, the Fed raised its interest rate on excess reserves from 0.10% to 0.15% as overnight rates have recently drifted downward from the mid-point of the target range.  While policy was essentially unchanged, the overall message of the Fed’s publications marked a turning point.  The assessment of the pandemic previously stated, “The COVID-19 pandemic is causing tremendous human and economic hardship across the United States and around the world.”  The new Statement notes, “Progress on vaccinations has reduced the spread of COVID-19 in the United States.”  It goes on to say, “Progress on vaccinations will likely continue to reduce the effects of the public health crisis on the economy.” While the Statement did note that “risks to the outlook remain,” this appeared to mark a transition in perception to seeing the pandemic’s largest impact being in the rear-view mirror, with a new focus on the eventual removal of emergency policies.

The Summary of Economic Projections gave further evidence to this turning point.  The SEP showed expectations for the unemployment rate to end the year at 4.5% despite the recent weakness in the pace of job recovery.  Moreover, economic growth projections for 2021 were revised up from 6.5% to 7.0%.  With several inflation reports coming in hotter than expected, Fed officials revised their core PCE expectations for 2021 up from 2.2% to 3.0% and headline PCE projections from 2.4% to 3.4%.  However, this is still expected to be transitory with both measures projected to pull back to a rate of 2.1% in 2022.  The dot plot gave the most clear evidence of the shift in posture from Fed officials.  As of the March SEP, only four officials believed it would be appropriate to hike rates in 2022 and seven believed it would be appropriate by year-end 2023.  As of yesterday’s dot plot, seven officials now believe it will be appropriate to hike rates before the end of 2022 and thirteen officials believe it will be appropriate by the end of 2023.  The median forecast for year-end 2023 was increased by 50 basis points to a range of 0.50%-0.75%. While the Fed is not planning to slow down its asset purchases just yet, Fed Chair Powell did indicate in his press conference that this could be considered the meeting at which they started “talking about talking about” tapering.

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