- Equities head higher, oil continues lower. Stocks are advancing this morning after yesterday’s muted session in which only two sectors registered moves greater than 0.1%. The energy sector was the largest decliner, dropping nearly 1% on a 3.4% plunge in crude, while utilities led to the upside with a modest 0.3% gain. This morning, U.S. markets are taking their cue from Europe, which is higher across the board on mixed Eurozone Purchasing Managers’ Index (PMI) reports and hopes of further monetary stimulus. In Asia, the Nikkei Index lost 0.6% as Japanese PMI data showed a slight contraction in manufacturing; the Shanghai Composite gained 0.2%. Meanwhile, WTI crude oil is back down below $47/barrel, COMEX gold is flat at $1345/oz., and the yield on the 10-year Treasury has ticked down to 1.53%.
- Will foreign demand remain a tailwind for Treasuries? Demand from indirect bidders (which include foreign purchasers) has been strong in recent Treasury auctions. Markets will be watching the results of this week’s 2-, 5-, and 7- year auctions to determine if strong foreign demand is starting to fade. Currency hedging costs have increased for overseas investors leading to concerns that the narrow range in Treasury yields over recent weeks is a result of fading foreign demand. Low and negative interest rate policies and ongoing bond purchases from major global central banks motivate global investors to consider Treasuries, which offer higher relative, and inflation-adjusted yields, among global developed bond markets. We discuss international investor demand in more detail in this week’s Bond Market Perspectives, due out later today.
- Hawkish comments overcome dovish minutes. The Federal Reserve Bank’s (Fed) latest Federal Open Market Committee (FOMC) minutes were released last Wednesday, but their dovish tilt was overshadowed by more hawkish comments from Fed Vice Chair Fischer, as well as several Fed presidents, including the normally dovish Dudley (New York), and more centrist Lockhart (Atlanta) and Williams (San Francisco). Rate hike expectations moved higher for the week, with odds of a December hike increasing from 40% to 55%. However, with a long-term expected fed funds rate of just under 1.5%, the path of rate hikes envisioned by markets is still very benign relative to the Fed’s median forecast. Fed Chair Yellen is scheduled to speak on Friday at the annual Jackson Hole symposium, and her speech may offer additional insight into the Fed’s latest thinking on rate hikes.
- TED spread moves higher, but not on bank fears. The TED spread, which is calculated by subtracting the three-month T-bill yield from three-month Libor, gained notoriety in the lead-up to the Great Recession as an indicator of stress in interbank lending markets. The TED spread has been increasing in recent weeks, though this time it has less to do with interbank lending fears and more to do with money market reform, as investors sell prime money market funds that are poised to move to a floating net asset value (NAV) in October 2016, and reposition into government money market accounts that will retain fixed NAVs. This movement is decreasing demand for commercial paper and CDs, leading to higher rates for short-term instruments that influence Libor rates.
- Spreads remain narrow across fixed income. We continue to believe bonds offer a diversification benefit but it is more difficult to find value in individual sectors given broadly elevated valuations. Spreads for many sectors of the fixed income market, including high-yield, emerging markets debt, investment-grade corporate, and high-yield municipal bonds (based on the Barclays U.S. High Yield, JP Morgan EMBI Plus, Barclays US Corporate, Barclays AAA Municipal, and Barclays BBB Municipal Indexes) are all at or near their lows for the year. We continue to believe a mix of high-quality intermediate-term bonds, such as investment-grade corporates and mortgage-backed securities, combined with a small allocation to less interest rate sensitive sectors, such as high-yield bonds, may make sense for suitable investors.
- European stocks higher despite mixed European manufacturing data and another dip in oil. August Eurozone manufacturing PMI came in at 51.8, slightly below consensus (52.0) and the July reading (also 52.0), due to some weakness in France. But the services equivalent registered at 53.1, better than expected (52.8) and the prior month (52.9), despite a shortfall in the German services reading. These readings, which are consistent with the sluggish pace of growth in recent quarters, do help put concerns about a near-term economic disruption from Brexit to rest; but at the same time, they leave the door open for the European Central Bank (ECB) to potentially do more later this year. After yesterday’s 3% drop to break a seven-day winning streak, oil is down nearly 1% this morning to near $47.
- Low volatility stat of the day. It’s becoming repetitive but we continue to be struck by the low volatility in this stock market. The S&P 500 has not traded in a range of more than 0.75% for 14 straight days. Along with a similar streak that ended earlier this month, these are the two longest such streaks since 1980.
- Markit Mfg. PMI (Aug)
- Eurozone: Markit Mfg. PMI (Aug)
- Japan: Bank of Japan’s Kuroda speaks in Tokyo
- Goods Trade Balance (Jul)
- GDP (Q2 – Revised)
- Fed Chair Yellen speaks at Jackson Hole Policy Symposium