The financial markets didn’t like what they heard from the Federal Open Market Committee and Federal Reserve chair Janet Yellen this afternoon.
Treasuries moved lower across the yield curve with the two-year Treasury yield closing at a two-month high; the yield on the five-year rising to 1.6975%; and the yield on the 10-year Treasury closing up 9 basis points to 1.725%. That took the yield on the 10-year benchmark for mortgages above the 50-day and 100-day moving averages. (Remember bond yields go up when traders sell bonds and bond prices fall. So we’re talking about selling on today’s news.)
But what exactly didn’t the markets like?
Yes, the Federal Reserve did indeed continue to reduce its month purchases of Treasuries and mortgage-backed securities. The Fed cut another $10 billion a month from the program to bring what was once $85 billion a month in purchases to $55 billion.
But this was widely expected.
The Fed also threw out its own guidance of keeping short-term rates at the current 0% to 0.25% range until the unemployment rate hits 6.5%. With the unemployment rate near that level now, all of Wall Street expected the Fed to abandon that target. And so the central bank did—even if it didn’t replace it with anything concrete. The Fed will instead, Yellen said, look at a wide range of information including unemployment, inflation expectations, and financial markets.
Not terribly satisfying as guidance but, again, not unexpected.
So, then, where was the problem? Read more
New Federal Reserve Chairman Janet Yellen delivered her first congressional testimony today in front of the House Financial Services Committee.
And financial markets liked what they heard. As of 1:30 p.m. New York time the Dow Jones Industrial Average was up 1.23% and the Standard & Poor’s 500 1.03%. Germany’s DAX Index closed up 2.03% on the day and in Asia, where markets closed well before Yellen started to talk, Japan’s Nikkei 225 Index was up 1.77%, Hong Kong’s Hang Seng was up 1.78%, and the Shanghai Composite was ahead 0.84%.
Yellen stressed continuity with former Fed chairman Ben Bernanke’s policies. The Fed would continue to reduce its purchases of Treasuries and mortgage-backed securities at a speed dependent on the economic data. The slow pace of job creation in December and January was certainly disappointing but, Yellen cautioned, two months of data weren’t enough to bring a change in the central bank’s taper policy. The Fed’s Open Market Committee doesn’t meet again until March, she noted, and that will give the bank another month of data to examine.
Most important Yellen successfully—for the moment—addressed the market’s anxiety about the falling unemployment rate. Read more
Two questions after today’s surprisingly grim December jobs report.
First, why did the U.S. economy add only 74,000 jobs in December? That’s a huge drop from the 241,000 added in November. (This figure was revised upwards from 203,000.) Economists surveyed by Briefing.com were expecting the economy to add 197,000 jobs in December.
Second, why has the U.S. stock market shaken off this big disappointment? The Standard & Poor’s 500 stock index was actually up 0.23% at the close. Emerging market stocks were up even more with the IShares MSCI Emerging Markets index ahead 1.8%. Emerging markets that trade roughly on New York time were up too—Brazil was ahead 0.8% for the day and Mexico 2.1%–so this isn’t just an artifact of markets closing before they heard the bad news.
Explaining this jobs report is basically guesswork at this point. Maybe the U.S. economy isn’t as strong as all the other data have indicated recently. Maybe this disappointing number is a result of statistical error in the always-problematic seasonal adjustments for holiday hiring, especially in a year when Thanksgiving fell so late in November. Maybe the frigid weather in December reduced hiring. Maybe November pulled jobs from December.
At this point we don’t know whether this very disappointing result is a significant data point that should lower projections of the economic trend or a one-off event that doesn’t say much of anything.
Wall Street is certainly more than willing to entertain the possibility today that this number is just a one-off event caused by weather or faulty seasonal adjustments.
But that’s not the only reason for the surprisingly positive response (or in the U.S. markets, the surprising absence of a more pronounced downward move.) Read more
What looks likely to drive the financial markets once Santa is back at the North Pole and his rally has passed into the record books?
Here’s what I think deserves watching as we turn the corner into January.
- Yields on the 10-year Treasury are pushing 3%. In fact yields pushed briefly to 3.01% today—the highest level since July 2011. Nothing magical about 3% versus, say, 2.96% but 3% clearly has the market’s attention and this level is a benchmark that investors and traders are watching to gage the reaction to the December 18 Federal Reserve decision to begin tapering its $85 billion in monthly purchases of Treasuries and mortgage-backed securities. 3% isn’t enough to stall a rally, but it is likely to make the cautious more cautious.
- The Japanese yen closed at 105.14 to the dollar today and it looks like the next test will come when the currency falls to 107 to the dollar. Read more
After rallying in September and October in anticipation of rising inflation in 2014, TIPS (Treasury Inflation Protected Securities) have dropped like a stone in the last month. They’re now down 8.8% in 2013, the biggest drop, according to Bank of America Merrill Lynch, since they were introduced in 1997.
According to the TIPS market forget about inflation in 2014. It’s a slowdown in price increases—which isn’t the same thing as deflation by a long shot—that faces the financial markets and the economy next year.
The gap in yields between fixed-rate Treasuries—where the payout doesn’t change with inflation—and TIPS—where the bond pays out more as inflation rises—shows the market predicting that inflation, by official measures, will average 1.75% over the next five years. That’s a huge decline from the year’s high in March when the TIPS market was pricing in a 2.42% inflation rate. (Economists surveyed in Bloomberg are expecting consumer price inflation of 1.5% this year. That would be the lowest rate since 2009 and the second-lowest annual rate since 1963.)
This view on inflation is a huge turnaround from the earlier consensus that the massive expansion of the Federal Reserve balance sheet would result in an increase of inflation as the increase in the money supply fed into the economy. The Fed’s balance sheet has climbed to almost $4 trillion from $900 billion in 2008 as the U.S. central bank bought financial assets to lower interest rates and stimulate the economy. (Similar increases in balance sheets and money supply by the European Central Bank and the Bank of Japan would result in global inflation, the consensus held.)
By it now looks like a decline in wages and employment and the associated weakness in demand will trump central bank printing presses. At least for a whie.
Now the TIPS market doesn’t have to be right. Read more