
Emerging Markets and Treasury Supply Highlights the Week
If you subscribe to the view that curve flattening will continue into inversion this is probably the week for you. Treasury supply will be front-end loaded which should push short-term yields higher, and sizable month-end extension trades in the index bond fund world should support the long-end furthering the curve flattening pressure. We’re even more convinced of the flattening-to-inversion call after Powell’s Jackson Hole speech avoided overt concerns with overseas trade and emerging market stresses. The takeaway from the speech was that Powell feels confident about the U.S. economy and that will lead the Fed to continue with September and December hikes. In the midst of those comments, 10-year and 30-year bonds rallied as investors bet the Fed will hike until something breaks.
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Top 5 Events for the Week
AUG 27 - 31, 2018
1. Emerging Market & Trade Developments— All Week
2. Treasury Supply—Thursday
3. July Personal Income & Spending—Thursday
4. July Advance Goods Trade Balance —Tuesday
5. July Pending Home Sales — Wednesday
1. Emerging Market & Trade Developments —All Week
Emerging markets and trade developments will continue to override most of the economic releases this week, especially with the Turkish market back after a week of holiday observances. Also with the low-level U.S./China talks concluding last week with little to show, and additional tariffs put in place, trade war maneuvers will provide another source of market-moving headlines. In addition, with Powell’s Jackson Hole speech offering little concern over emerging market stress, or trade war actions, as near-term threats to the U.S. economy, dollar strength will persist and that will keep pressure on other currencies. It all seems to imply a positive backdrop to long-term Treasuries and our curve flattening call.
2. Front-end Treasury Supply and Duration Extension —All Week
Treasury supply this week will be front-end loaded and that most likely means price concessions to move the paper while at the same time bond fund managers face month-end duration extension to their index funds and that implies more long-end buying that should push yields lower with the combination of the two forces flattening the curve further. The 2yr-10yr curve hit cycle lows on Friday when the spread dipped to 19bps, so the combination of front-end supply and duration extension purchases should offer another leg lower in the curve spread this week. The chart below details another factor that may lead to Treasury support in the coming years. Notice in the graph Treasuries comprise a larger share of total debt. Bond funds that are indexed to those allocations will need to up their Treasury purchases to keep pace with the increasing share of Treasuries to the total taxable market. That may provide an additional source of support to Treasuries as supply increases over the next couple years.
3. Personal Income and Spending—Thursday
The Thursday release of the Personal Income and Spending numbers for July will give us a look at the momentum of both metrics in the first month of the third quarter. Personal income is expected to rise 0.4% for the third month in a row while personal spending is also expected to rise 0.4% for the second straight month. Real spending—adjusted for inflation— is expected to increase 0.2% versus a 0.3% increase in June. The Core PCE (YoY) inflation measure is expected to tick up a tenth to 2.0% from 1.9% in June. In all, a fairly steady-as-she-goes report as to consumer income and spending and that shouldn’t move GDP expectations of 3.0% by any material amount.
4. July Advance Goods Trade Balance —Tuesday
With trade war rhetoric remaining front and center the monthly look at goods trade deficits has become equal parts political and economic. The goods trade deficit was -$64.5 billion in June 2017 and is expected to be –$69.0 billion in July 2018. The deficit began the quarter at -$67.9 billion, so the expected widening to -$69.0 billion indicates the goods trade sector will subtract from third quarter GDP if the July widening of the trade deficit persists throughout the quarter.
5. July Pending Home Sales —Wednesday
Recent housing-related releases have disappointed against expectations and while not representing material drop-offs they do give the appearance that residential housing activity has plateaued with the combination of stagnant wage gains, home price appreciation, low inventories, and higher interest rates all conspiring to reduce housing affordability. Pending home sales are based on contract signings so they represent a leading indicator to new and existing home sales a month or two later when the contracts close. Sales for July are expected up 0.5% compared to 0.9% in June. The June increase was the largest MoM gain this year while three out of the last six months posted MoM declines, so even a minimal MoM gain will look good compared to the recent declines in this series.
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Investment Yield Ranges Over Last Year
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Thomas R. Fitzgerald
Director, Strategy & Research
Tfitzgerald@centerstatebank.com