- Markets open higher ahead of Fed meeting kickoff. U.S. indexes are up this morning as traders weigh housing data before the start of the two-day Federal Open Market Committee (FOMC) meeting. The Dow and S&P 500 finished unchanged yesterday after shedding early gains, while the Nasdaq lost 0.2% on tech weakness. Markets were quiet in Asia, as investors await tomorrow’s Bank of Japan (BOJ) monetary policy announcement. The Nikkei Index lost 0.2% while the Shanghai Composite and Hang Seng both slipped 0.1%. European markets are modestly higher in afternoon trading, led by Germany’s DAX and the U.K.’s FTSE 100. Meanwhile, WTI crude oil ($43.40/barrel) has reversed its one-day rally amid concerns that several OPEC members intend to increase output, COMEX gold continues to trade in a tight range at $1317/oz., and strength in Treasuries has lowered the 10-year yield to 1.67%.
- 10-Year Treasury’s bouncy ride settles ahead of the Fed/BOJ. Despite turbulence over the past two weeks, Treasury yields are fairly quiet this week ahead of central bank announcements from the Bank of Japan (BOJ) and the Federal Reserve Bank (Fed). The 10-year Treasury has settled near 1.7% as it awaits guidance from central banks. We expect the Fed to remain on hold; but the menu of possible options on the table at the BOJ, including pushing rates further into negative territory or adjusting bond buying in an attempt to steepen the yield curve, makes the outcome harder to predict. These central bank actions are likely to determine if the 10-year is able to sustain its recent breakout, and trade in the 1.7-2% range it occupied for much of the year, or if it will fall back into its recent range of 1.5-1.7%.
- Market says September rate hike likely off the table. Treasury yields have notched up in recent weeks, but not on account of near-term rate hike expectations. Despite being as high as 35% at the beginning of September, the market-implied chance of a Fed rate hike this week stands at just 12%, as of September 19. The chance of a December rate hike has been oscillating near its current level of about 55% in favor of a hike by year-end. Recent middle of the road economic data have been weak enough to diminish chances of a September hike, while being strong enough to keep December on the table.
- High-yield and emerging markets debt (EMD) weaken during a challenging week. The Barclays U.S. High Yield Index returned -0.6% and the Barclays USD EMD Aggregate returned -1.2% on the week. Both asset classes were susceptible to profit taking, as despite the down week, high-yield and EMD are up 13.7% and 13.2%, respectively, year to date. In addition to the backdrop of rising rates, high-yield faced the headwind of elevated corporate issuance, as firms come to market ahead of the Fed meeting this week. EMD was also hampered by weakness in the price of oil and its elevated duration (interest rate sensitivity) relative to high-yield. We continue to believe that valuations for both high-yield and EMD are on the expensive side of fair value, though the reach for yield in the current environment may help support prices in the near term.
- Muni supply flood. Rising rates have been the main driver of municipal weakness in recent weeks, though the market is also dealing with another headwind–a flood of supply. The primary market saw record new issuance for the month of August, typically a quiet month for new supply, and the increase has carried over to September. Secondary market supplies are also at levels that have corresponded with previous periods of municipal weakness. However, strong demand from investors has, so far, helped to offset the impact of the supply surge. We discuss municipal market supply in more detail in this week’s Bond Market Perspectives, due out later today.
- Soft housing starts and building permits data for August, but housing remains on solid ground. After a booming report in July, the August 2016 housing starts and building permits report was a clunker. At 1.142 million, housing starts fell just shy of expectations (1.190 million) in August and decelerated from the July reading of 1.212 million. The headline was better than the details, however, as most of the decline in August came in the South, which has seen abnormally wet weather in many areas. Housing starts in the South fell 15% between July and August, while starts in the other three areas of the U.S. rose between 2% and 8%. We’d look for a bounce back in housing activity in the South in September if the weather cooperates. Supported by low interest rates, a solid labor market, a pickup in household formation, modest home price gains in-line with incomes, and sound lending practices relative to the 2002-2007 housing boom, we continue to expect that housing will contribute positively to gross domestic product (GDP) growth in 2016 (as it has since 2011) via the residential investment category. However, at only 5% of GDP, housing has only a limited direct impact.
- Very flat day. The S&P 500 lost 0.04 points yesterday to come in at a loss of 0.0019%, which was the smallest percentage loss since July 11, 2012. This was the fourth time this year the S&P 500 closed at 0.00%, the most since four in 2014 and 2013. The S&P 500 gapped higher, but tracked lower by the end of the day. With the Fed and Bank of Japan interest rate decisions coming out tomorrow, it wouldn’t be surprising to see more slow action ahead of those big events.
- A tough environment for active managers. According to a recent report by the S&P Dow Jones Indexes, in the year ending June 30, 2016, 85% of large cap stock funds, 88% of mid cap funds and 89% of small cap funds failed to match the indexes they track. Meanwhile, the numbers for 5 and 10 years out were slightly worse. There are many reasons for this underperformance and today on the LPL Research blog we will take a look, focusing on how tightly sector performance has been. Without a wide dispersion of returns, it can be much tougher for active managers to find alpha.
- Housing Starts and Building Permits (Aug)
- FOMC Statement
- Dot Plot and Economic Forecast
- Yellen Press Conference
- Japan: Bank of Japan Meeting (No Change Expected)
- Markit Mfg. PMI (Sep)
- Mester (Hawk)
- Harker (Hawk)
- Lockhart (Dove)
- Eurozone: Markit Mfg. PMI (Sep)
- Japan: Nikkei Japan Mfg. PMI (Sep)