“How Do You Measure Yourself with Other Golfers? By Height.[ii]
June 16, 2017 – DJIA = 21,080 – S&P 500 = 6,210 – Nasdaq = 5,805
“How Do You Measure Yourself with Other Golfers? By Height.[ii]
The Federal Reserve raised interest rates on Wednesday for the third time since December. It was widely expected as the market had placed a nearly 100% probability on the event. However, hours before the announcement, the economy, trying to fit into the populist movement, coughed up a couple of hairballs at the feet of our bureaucratic bankers.
Specifically, the Labor Department reported that seasonally adjusted consumer prices fell a 0.1% in May. Also, the Commerce Department reported that retail sales dropped 0.3% in May. To be sure, these are just two data points but they are suggesting slow growth. A softer economy, if this becomes a trend, is not what the Fed is expecting and will not mix well with rising interest rates.
In another display of irony, long-term interest rates have been declining as short-term rates have been climbing. This has resulted in a flattening yield curve. In fact, the spread between the yields on the 2 year and 10 year Treasury note (a commonly watched indicator) closed yesterday at 81.5 basis points. The spread between the 5 year note and 30 year bond reached 102 basis points or 1.02%.[iii] In other words, investors are rewarded 1% for buying a bond with a 25 year longer maturity. Ummm…. we’ll pass.
Inquiring minds want to know – what’s causing this? Is the economy slowing and with it loan demand? Or is this a temporary situation and a good time to sell long maturity bonds before interest rates move higher?
Some interesting data related to this debate is that the St. Louis Federal Reserve released business loan numbers recently. Commercial and industrial loan (C&I) growth has been stagnate over the past 7 months at just under $2.1 trillion. As a point of reference, C&I loans grew 49% from 2012 to 2016.[iv] A strong, expanding economy should be generating increasing loan demand.
That it isn’t happening is something to be noted.
This, of course, places increased importance on upcoming reports such as June’s employment figures, ISM surveys, and orders for durable goods. It promises to be a busy summer. Wall Street didn’t need a vacation.
Jeffrey J. Kerr, CFA
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