Initial jobless claims totaled 241k, about in line with the estimate of 240k and vs 243k last week. The 4 week average was little changed at 237k. Continuing claims delayed by a week fell by 30k. The bottom line story remains the same with employers keeping a strong hold on their employees on hopes of quicker economic growth with better fiscal and regulatory policy and in light of a labor market where finding qualified workers at this stage of the economic cycle is tougher and tougher.
The Philly manufacturing March index fell to 32.8 off the spike last month to 43.3. That was a touch above the estimate of 30. New orders held at a solid level at 38.6 and compares with 17.3 back in October. Backlogs improved by a further 3.7 pts to 14.4. It was slightly negative pre election. Employment rose another 6.4 pts to 17.5 vs -4.1 in October. Inventories reversed the February drop. Prices paid jumped more than 10 pts to 40.7 which is the highest level since May 2011. Prices received was also higher by 10 pts but after falling by 16 pts last month. It still is 7 pts above its 6 month average and the two point to continued cost pressures. The forward looking 6 month business activity was higher by 6 pts to near the best level in 3 years. Encouragingly, capital spending plans jumped by 12.4 pts to 34.5 and hopefully is a portend for a better capital investment cycle.
Bottom line, I don’t see how all this economic enthusiasm doesn’t lead to a better Q2 GDP pace from the modest one seen in Q1. But, can we still get above the 2% run rate in any noticeable fashion? The sentiment indicators have screamed higher to such an extent that taken itself we would say so but debt and demographic (aging population) realities still are with us and are now joined by rising interest rates.
February housing starts totaled 1.288mm, slightly ahead of the estimate of 1.264mm and January was revised up by 5k. Positively, we saw a nice pick up of 53k to 872k in the amount of shovels hitting the dirt for single family homes. That’s the most in this cycle but is still 15% below the 25 year average. Multi family starts fell a touch but is still near its long term average. As for permits and the forward looking nature of them, single family permits rose by 25k to 832k but was more than offset by a drop of 105k for multi family. Permits are pretty volatile month to month.
Bottom line, the better starts number for single family homes comes with the gains in home builder sentiment on hopes that easier regulations and permitting will lower costs. The caveats of falling affordability and higher labor and lot costs still remain. As said many times, the real dearth in the market are for those homes priced below $250k in order to bring more first time households into the market but that comes at a lower margin for builders.
The stock market got excited that the FOMC repeated that 3 hikes in total this year is their goal instead of something more but the Fed assumes right now no economic improvement from fiscal policy. The stock market of course has celebrated since the election that we will see large fiscal reform that will lead to faster growth which if we get, we have to assume we’ll get more than 3 hikes this year or a quicker pace next year as the Fed readjusts their forecasts. Yes, the inherent contradictions but that’s what emotional driven markets are for.
As for the dollar and all the talk of how rate hikes and central bank divergence will be good for it, the dollar index stands at 100.62 vs 100.17 on November 30th 2015, two weeks before the Fed started their rate hike cycle. I’ll say what I said earlier this week, it’s all about real rates. The 5 yr real rate fell 17 bps yesterday to -.13% vs +.30% on that day back in 2015. I continue to fade the dollar and remain bullish on gold.
For the 10th straight month foreigners were net sellers of US notes and bonds in January. Central bank selling offset private buying by $6.9b and this follows total net selling of $343b in 2016 and $20.3b in 2015. Foreigners bought over $400b in each of 2011 and 2012. For the first month in many, China was a net buyer of notes and bonds but by a modest $1.3b. They were large sellers though of bills (or let them mature) which reduced their holdings of US Treasuries by $7b to just off a 7 yr low. Japan, the largest holder of Treasuries, sold $4.4b of notes and bonds but were buyers of bills that offset that. Germany ended up being the largest net seller in January so all the talk of a yield pick up just isn’t happening most likely because of the high cost of FX hedging.
Bottom line, the natural foreign flow of reserve money into the US Treasury market essentially stopped in the middle of 2015 and I don’t see any signs that this will reverse any time soon. The Chinese are dealing with its reserve shrinkage and yuan stabilization attempts, OPEC is facing a cash crunch and the Japanese and others have a high cost of hedging. This doesn’t matter much for US yields while we have other large buyers but if it continues when it comes time for the Fed to start shrinking their balance sheet, it will likely start to matter.
The BoJ followed the FOMC overnight and made no change to policy as expected. They repeated their goal of ‘yield curve control’ and “the Bank will conduct purchases at more or less the current pace – an annual pace of increase in the amount of outstanding of its JGB holdings of about 80T yen – aiming to achieve the target level of the long term interest rate specified by the guidance.” The purchases of ETF’s, commercial paper and corporate bonds will continue at the same pace. They remain confident that inflation will rise and are stubbornly sticking to their 2% inflation target which I believe they should just get off that. Lower it to 1% instead. Be realistic. JGB yields fell overnight while the yen is little changed after its jump yesterday after the FOMC.
The BoE held steady with their benchmark rate at .25% and the QE program. They did get one dissent from the hawkish member Kristen Forbes who wanted to take back the emergency rate cut after the UK vote. She though voted with the MPC on keeping QE as is. The pound did rally after the statement, not on the lone dissent, but on this line: “With inflation rising sharply, and only mixed evidence on slowing activity domestically, some members noted that it would take relatively little further upside news on the prospects for activity or inflation for them to consider that a more immediate reduction in policy support might be warranted.” That said, “The Committee expects a slowdown in aggregate demand over the course of this year, as household demand growth declines in reaction to lower real income growth.” This of course is partly of the BoE’s own making as they furthered the pound weakness with their post Brexit easing.
The BoE is stuck with a potentially stagflationary environment with the weak pound induced inflation rise and with some economic indicators on the weaker side, particularly from consumers. This line could have been pulled out of a Fed meeting in the late 1970’s and the BoE is falling into the same trap, “Attempting to offset fully the effect of weaker sterling on inflation would be achievable only at the cost of higher unemployment and, in all likelihood, even weaker income growth.” The notable market response outside of the stronger pound is the 5 bps rise in the 2 yr gilt yield. The 10 yr yield is up also by the same amount to the highest in a month.
The Swiss central bank and the one in Norway also made no changes to policy.
Fortunately the far right candidate in the Netherlands didn’t win but not many believed it would happen anyway. Prior to the election the 10 yr Dutch bond yield was just .66%. Their government is now completely splintered with many different groups but the worst fears were not realized. I continue to believe that the political worries in Europe this year are overblown and European stocks are rallying. Sovereign bond yields in the region are all jumping maybe because it gives Mario Draghi one less thing to worry about as we are now 2 weeks away from a 25% cut in monthly QE. Thus, yields in Europe are not seeing any benefit from the drop in US yields which in turn are lifting US yields off yesterday’s lows. The euro is holding at its highest level vs the US dollar since early February and I continue to like the euro this year.
The February Eurozone CPI was left unrevised with a 2% y/o/y increase, up from 1.8% in January, 1.1% in December and vs -.2% one year ago. As there was no change the euro 5 yr 5 yr inflation swap is unchanged as well at 1.70%. This was above 2% when the ECB first experimented with negative rates in June 2014 but introspection is not part of what central banks do. It’s all about the models.