Investors may not be thinking about it much, but that does not mean the US deficit is not continuing at massive levels. This year will see another $1 tn shortfall in the US budget, a fact that the US Treasury will have to make up for by issuing lots of debt. This will be the second straight year of $1 tn Treasury issuance. So far the market has been happy to absorb the extra debt, and as such, the Treasury is planning to maintain a similar schedule of issuance this year.
FINSUM: The market seems to be a long way from having its fill of Treasuries, but at some point yields will move higher simply as a force of extra supply.
Those nearing retirement are likely comforted that rates have risen and returns from fixed income are much higher than the near zero coupons of the 2008-2015 era. Pension funds are finding it easier to meet their return goals, and generally speaking, the environment for retirees is on much better footing. However, the risk of a return to zero interest rates in the next recession seems very high, according to independent research. The Fed tends to raise rates slowly and cut them quickly, so the threat of a return to zero rates seems very plausibe the next time the economy goes into reverse (maybe 2020?). Even the Fed staff itself acknowledges this likelihood.
FINSUM: The risk of a protracted return to zero interest rates is not inconsiderable and is likely one of those late night stress points for those nearing retirement (and their advisors!).
For the last few weeks, the Fed looked like an out of touch ivory tower central bank committed to driving the US economy into a recession through relentless rate hikes (or at least that was the anxious view). However, the Fed has finally made an announcement which gave investors some calm. The head of the NY Fed commented that being “data dependent” meant listening to markets too, not just the economy. He also contextualized the language from the last Fed meeting, softening its impact. The market jumped immediately on the news.
FINSUM: Too bad it isn’t Jerome Powell making the comments. That said, the Fed must be starting to get nervous that we are close to a bear market.
There has been a large segment of money managers and investors that have taken a bullish stance against Treasuries. With rates rising and the economy performing well, it stood to reason that yields would keep on rising. However, after a couple of months of brutal stock volatility and worries over a trade war and growth, investors are finally shedding those bearish short positions. The stance was one of the most popular of the year, but the volume of bearish positions has shrunk by two-thirds since from the record it reached in late September.
FINSUM: The ten-year yield now looks more likely to fall than rise given the longer-term economic outlook and trouble in stocks.
Earlier this week it seemed that the market might finally have a reason to believe the Fed might pause its inexorable march higher in rates. That reason was that inflation had dipped below the Fed’s target. Being just a single occurrence, it was a weak-footed hope. Now, new data shows the American consumer is doing well, as retail sales jumped 0.9% in November. The explanation for the jump is that a drop in gasoline prices helped fuel more retail spending.
FINSUM: Consumers are obviously still feeling comfortable, which will give the Fed a bit of comfort about the stage of the cycle.
The moment many investors have been waiting for (or not, depending on how you look at it) has arrived. Rate hikes finally have a chance to slow after their steady rise over the last couple of years. New inflation data has come in showing weakness. Inflation has now fallen below the Fed’s 2% rate, which means the central bank has cause to pause its rate hikes as the economy looks to be on more fragile footing.
FINSUM: There are two ways to look at this. The first is that it takes some momentum away from the current yield inversion. But on the other hand, it could be an indicator that the economy is headed towards recession.