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Bond Market Week In Review For December 3-7

Published 12/09/2018, 01:39 AM
Updated 07/09/2023, 06:31 AM

Summary

The most recent Beige Book has more bearish commentary than we've seen over the last few years.

According to the WSJ, the Fed is thinking about pausing its rate hiking program after a December hike.

The curve is narrowing, which means traders see sluggish near- and intermediate-term growth.

The Federal Reserve released the latest Beige Book on Wednesday which contained the following summation of U.S. economic activity [emphasis added]

"Most of the twelve Federal Reserve Districts reported that their economies expanded at a modest or moderate pace from mid-October through late November, though both Dallas and Philadelphia noted slower growth compared with the prior Beige Book period. St. Louis and Kansas City noted just slight growth. On balance, consumer spending held steady – District reports on growth of non-auto retail sales appeared somewhat weaker while auto sales tended to improve, particularly for used cars. Tourism reports varied but generally kept pace with the economy. Tariffs remained a concern for manufacturers, but a majority of Districts continued to report moderate growth in the sector. All Districts reported growth in non-financial services – ranging from slight to strong. New home construction and existing home sales tended to decline or hold steady, while construction and leasing of nonresidential structures tended to rise or remain flat. Overall, lending volumes grew modestly, although a few Districts noted some slowing. Agricultural conditions and farm incomes were mixed; some Districts noted impacts from excessive rainfall and from tariffs, which have constrained demand. Most energy sectors saw little change or modest growth. Most Districts reported that firms remained positive; however, optimism has waned in some as contacts cited increased uncertainty from impacts of tariffs, rising interest rates, and labor market constraints."

There is an increased bearish tone: four districts (Dallas, Philadelphia, St. Louis, and Kansas City) experienced weaker growth; non-auto retail sales were, "somewhat weaker;" housing is declining or "holding steady;" agriculture is "mixed;" optimism has "waned."

This modestly increasing and broader weakness may have changed the Fed's rate-hiking policy [emphasis added]:

"Members of the Federal Reserve are reportedly debating whether to signal a "wait-and-see" approach after a probable hike to the central bank's overnight rate at its meeting later this month.

As a part of the Fed's emerging "data dependent" plan, it could chose to pause the regular quarter-point increases to the federal funds rates and not hike in March, the Wall Street Journal reported Thursday. Federal Open Market Committee officials — who vote on whether to change the rate — have been raising the rate about once per quarter for the past two years."

Let's now turn to the Treasury market, starting with a few key spreads.

The belly of the curve (the 10-year-2-year spread) is now nearly flat.

And the 10-year-3-month treasury spread is now approaching 50 basis points.

Both of these spreads have inverted prior to each recession since the mid-1970s:

Let's look at the curve from a different perspective, starting with the long end.

The 30- and 10-year yields have tightened significantly since the Spring. Most importantly, both yields recently fell, which is best shown by the iShares 20+ Year Treasury Bond (NASDAQ:TLT):

The TLT formed a double bottom in October and November and then rose sharply in the last few weeks. These are big moves for a government bond. They signal that traders' growth expectations are diminishing

Next, we have the belly of the shorter end of the curve:

The 3-month Treasury (in blue) is in a strong uptrend. The 2- and 5-year Treasury (in red and blue, respectively) were in an uptrend until the end of the summer, when both started to move sideways. Both have recently come in a bit, although neither has moved through key resistance levels. The spread between both is narrowing as well. This bolsters the argument that traders are becoming a bit more bearish about economic growth.

The bond market is sending pre-recession signals. The overall spread continues to narrow. The short-end is rising thanks to the Fed's rate-hiking program while traders are seeing diminished inflationary pressures as evidenced by declining 10- and 30-year yields. It also appears that the Fed is listening to the market, as reported by the WSJ.

Disclosure:I/we have no positions in any stocks mentioned, and no plans to initiate any positions within the next 72 hours.

I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.

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