AFMC - Weekly Commentary: Nothing Matters

2024-07-06 05:10:48 ET

Summary

• Two-year Treasury yields dropped 14 bps this week, to the low (4.60%) since March 27th.
• Bonds have turned notably receptive to indications of economic softening.
• With the Fed signaling the importance of labor market performance, markets this week reacted to weaker-than-expected June Non-Farm payroll (and household survey) and ADP data.
• The Fed erred in taking rate hikes off the table while signaling prospective rate cuts.

The CBB will be back to "normal" next Friday.

Two-year Treasury yields dropped 14 bps this week, to the low (4.60%) since March 27th. Ten-year yields fell 12 bps to 4.28% (within a few bps of the low since March), while benchmark MBS yields sank 16 bps to 5.73% (also near lows back to March). The market ended the week pricing a 4.82% policy rate for the Fed's December 18th meeting, implying 51 bps of rate reduction (two cuts). The rate was down six bps this week, to the lowest close since May 15th.

Bonds have turned notably receptive to indications of economic softening. With the Fed signaling the importance of labor market performance, markets this week reacted to weaker-than-expected June Non-Farm payroll (and household survey) and ADP data. While total non-farm payrolls increased a stronger-than-expected 206,000 (est. 190k), private payrolls rose a meaningfully weaker-than-expected 136,000 (est. 160k). Manufacturing jobs declined 8,000 versus a forecast of a gain of 5,000. Previous months payroll additions were revised lower. ADP job gains were reported at 150,000 versus the 165,000 median forecast.

The grossly imbalanced U.S. economy may be weaker - but not weak. It is certainly vulnerable. Yet I remain unconvinced that we are observing the start of a major downturn. Financial conditions remain exceptionally loose. Meanwhile, the bond market has developed a propensity for lower yields. Stronger data tend to be ignored, while yields quickly fall after weaker economic reports.

Especially with the interplay of highly speculative market dynamics, loose conditions, and robust system Credit expansion, I don't want to dismiss the importance of lower market yields. Probabilities remain reasonably high that the market response (lower yields and looser conditions) to weaker data will underpin economic activity.

It's reasonable for the Wall Street consensus to interpret recent bond market behavior as confirmation of a downturn about to trigger a Fed easing cycle. But I tend to view global bond yields as reacting to mounting risks, latent fragilities, and heightened vulnerability at the "periphery." It's more about fragile market structure than economic activity....

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