Welcome to the third quarter of 2020, and good riddance to the second, although its historic spasms will live long in the charts that we’ll have to graph over the next year or two. While we were expecting to be heading down the road of reopening at this point, the recent surge in viral cases has those plans seriously disrupted. How disrupted they become is likely to be the story of the third quarter. While a return to lockdowns is not on anyone’s wish list, even a slowing in reopening, and or delays, will put a serious dent in the V-shaped recovery crowds hopes. We’ve always been on the U– or square root-shaped recovery team but this quarter is very likely to frustrate everyone. And with schools expected to restart next month, at least in the south, how that goes and in what form will also have a large bearing on the hoped-for rebound. Speaking of forecasts, Bloomberg consensus has third quarter GDP at 20.0% annualized but we’re hard-pressed to believe that as we sit here and monitor spiraling case counts as the quarter opens.
With the Congressional testimony of Mssrs. Mnuchin and Powell behind us the next thing looking forward are the minutes from the June 10 FOMC meeting that will be released this afternoon. One of the biggest items Fed Watchers will be looking for is the discussion of yield curve caps. While Chair Powell noted at the post-meeting press conference that the committee wasn’t ready to go with that policy tool, the market is trading like its use is imminent. To reiterate, yield curve caps are where a central bank caps, or limits, the amount of yield increase it will allow by buying enough quantity in a specific maturity to prevent its yield from increasing beyond a prescribed level. Say the Fed asserts that it wants the 10-year note to remain below 1.00%. If the yield starts approaching that level the Fed will begin buying the 10-year in enough size to prevent the yield from breeching 1.00%. Think of it as akin to quantitative easing but with specific maturity and yield targets specified, thereby bringing additional certainty to the market.
As the graph shows, however, traders are already expecting the policy to be implemented sooner rather than later and they think it will be something in the 5– to 10-year part of the curve. The top part of the graph plots the increasing price in both the 5– and 10-year futures contracts while the lower panel illustrates the increasing open interest in both futures contracts, particularly in the last week. It should be noted that the futures activity is bleeding into the cash market as the 5-year note yield fell to 0.2705% on Monday, dropping 3.5bps, and equaling the May 8 low yield. It shows the power of the policy that the mere expectation of it being utilized is already having an effect on Treasury yields as traders try to anticipate the Fed’s next major policy move. Now we wait for the minutes to provide any insight on the subject.
Consumer Confidence Surprises to the Upside but will it Last?
We’ve been closely watching consumer confidence readings of late as we work to rebound from the lockdowns, and battle a resurgent virus. With two-thirds of the economy consumption-based, measuring how the consumer feels is a critical tell on future spending patterns. Yesterday’s Conference Board Consumer Confidence reading was surprisingly strong but that comes with a big caveat. The chart below reflects the June bounce in confidence.
The headline Consumer Confidence index surprised to the upside at 98.1 versus 85.9 May and the 91.5 consensus. The headline increase matches the largest jump since November 2011. The present situation gauge increased to 86.2 versus 68.4 in the prior month and expectations jumped to 106.0 versus 97.6 May. The labor differential improved to -3.0 from -12.7, the second largest gain on record, only trailing the April 1974 print. While the outright level is certainly not encouraging, the rate of change and the trajectory is a positive for the direction of hiring. The big caveat, however, is this data was compiled prior to June 18 so it doesn't fully reflect the last two weeks of spiking virus cases and the recent slowing, or pausing, in reopenings. While a return to lockdowns may still be avoided, the spike could certainly impact the willingness of consumers to engage in activities perceived once again as risky and that could certainly crimp the expected lift in economic activity during this quarter.
Agency Indications — FNMA / FHLMC Callable Rates
|Maturity (yrs)||2 Year||3 Year||4 Year||5 Year||10 Year||15 Year|