Sep 20, 2017 - One of the reasons Fed officials give for low interest rates (besides their own darn policy we mean, what
Financial Market Weekly CHRISTOPHER S. RUPKEY, CFA MANAGING DIRECTOR CHIEF FINANCIAL ECONOMIST ECONOMIC RESEARCH OFFICE (NEW YORK) (212) 782-5702
[email protected] MUFG | 1251 Avenue of the Americas New York, New York 10020
25 AUGUST 2017
A member of MUFG, a global financial group
INVESTMENT: WAIT FOR IT, THE FED CERTAINLY IS One of the reasons Fed officials give for low interest rates (besides their own darn policy we mean, what do you expect for bond yields with a 1.25% Fed funds rate?) has been not enough investment demand. They could have a long wait. Not enough investment, or a gradual pick up in investment demand the next few years, is certainly a major reason why they think they can only raise rates gradually up to 3%, like 12.5 12.5 Business Fixed Investment spending in GDP 2012 there is some headwind was % Buildings, Equipment, Software, Housing starts 1.4% of the force preventing them 10.0 10.0 2.2% GDP from putting rates there. 7.5 7.5 6.2 Wouldn’t be prudent. The 5.0 5.0 path forward at the 1990-91 3.9 recession moment, to be updated by 2.5 2.5 the Committee on 0.7 0.0 0.0 September 20, is 1.25% 1995 today, 1.5% December, -2.5 Running -2.5 near-miss 3.3% First half 2.25% next December in 2017 2001 -5.0 recession 2018, and the 3% finish -5.0 Real GDP fixed investment spending 2009 -16.7% line (terminal rate indeed) -7.5 measured on year/year basis -7.5 88 89 90 91 92 93 94 95 96 97 98 99 00 01 02 03 04 05 06 07 08 09 10 11 12 13 14 15 16 17 in December 2019. It would be our guess that investment spending won’t be any stronger when we get to the end of 2019. Hope this doesn’t scuttle some of those rate hikes. Been long enough this wait for normal rates again after the recession. e.gov/newsevents/speech/fischer20161017a.pdf
While the Fed waits for more investment and ponders why less-than normal rates has not made companies borrow more for investment, we thought we would review again the current state of investment in the GDP accounts. We just got the second quarter GDP figures, along with benchmark revisions back to 2014, on July 28 where funnily enough 2015 real GDP growth under Obama was revised up from 2.6% before to now 2.9%, just short of the goal of Trump’s economics team. None of the major investment categories were revised stronger in 2015: business spending on structures, 1
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equipment, software, or residential housing construction (realtor fees too). Of these four categories, it is really only home building that hasn’t returned to housing bubble economy years highs. Although structures have been held down by the collapse in oil & gas drilling. We are skeptical whether companies are going to find reasons to make more investment in the next few years. They have most likely bought enough equipment 1100 and built enough factories for now. billions Real Investment Spending in GDP Keeping interest rates low, that is 1000 Q2 2017 Investment spending $1080.4b is made up of: the decision to fix rates at 1.25% or 1-Equipment Equipment property 3.0% isn’t going to make any 900 2-Intellectual (software) 3-Structures (factories, warehouses, offices) difference in company decisions to 4-Residential housing Q2 2017 borrow more and invest. More 800 construction $741.2b Intellectual home building would count as Property 700 economic demand we guess, but Q2 2017 2001 the housing market looks in no The Great $594.9b Recession 600 Recession Housing hurry to recover further at this time. Commercial starts Structures
500
On Friday we got our monthly read on business capex in the durable 400 Q2 2017 $473.6b goods orders report for July. Annual average levels Durable goods orders totaled 300 99 00 01 02 03 04 05 06 07 08 09 10 11 12 13 14 15 16 17 $229.2 billion, but it is the $63.8 billion subset called nondefense capital goods orders ex-aircraft that we are interested in. A 0.4% increase in July is better than a poke in the eye with a sharp stick, but business equipment purchases had already regained the pre-recession highs before the latest downdraft, partly on crude oil’s collapse, and massive additional investment spending on this equipment seems rather unlikely if that is what the Fed is waiting for to normalize rates. 74
74 $billions
72 70 68
June 2006 last Fed hike
Dec 2007 recession start
Nondefense capital goods orders (x-aircraft) equals business capital spending
Sep 2014 $93 oil
72 70 68
Lehman
66
66
64
64
62 60 58 56 54 52 50 48 46
2005
2
62 heavy duty trucks railroads ship & boat building office furniture medical equipment
Aug 2012 Weak exports?
60 July 2017 $63.874 bln Jul +0.4% Jun +0.0% May +0.8%
June 2009 recession ends
farm machinery construction machinery industrial machinery unfilled orders better for sharp contractions metal working turbines generators limit is 9&years for this here 1998 2006, longer cut Qs and just annuals computers/storage electrical equipment communications equipment
2006
2007
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2008
2009
2010
2011
2012
2013
2014
58 56 54 52
to this level
50 48
2015
2016
2017
46
MARKETS OUTLOOK 30-Yr Treasury 10-Yr Note 5-Yr Note 2-Yr Note 3-month Libor Fed Funds Rate 2s/10s spread Libor/funds spd
30-Jun 2017 2.83 2.30 1.89 1.38 1.30 1.25 92 5
Q3 2017 3.10 2.50 2.10 1.60 1.65 1.50 90 15
Q4 2017 3.20 2.70 2.40 1.85 1.90 1.75 85 15
Q1 2018 3.40 3.00 2.70 2.10 2.20 2.00 90 20
Q2 2018 3.60 3.20 3.00 2.40 2.45 2.25 80 20
Q3 2018 3.70 3.40 3.20 2.60 2.70 2.50 80 20
Q4 2018 3.80 3.50 3.30 2.85 2.95 2.75 65 20
Q1 2019 4.00 3.70 3.50 3.10 3.20 3.00 60 20
Q2 2019 4.10 3.80 3.60 3.35 3.45 3.25 45 20
Q3 2019 4.10 3.90 3.70 3.35 3.35 3.25 55 10
Q4 2019 4.10 3.90 3.70 3.60 3.70 3.50 30 20
We think the market was awake this week. 10-yr yields 2.50 RECENT TREND IN 10-YR GOVERNMENT NOTES (N.Y. CLOSING) never strayed more than a Jul 7 Jul 25 +222K basis point or two each day 2.40 Bunds jobs IFO this week from 2.19% on a Aug 17 Trump closing basis. Yellen did not crisis Dow say anything on policy on 2.30 -274 points Jul 12 Friday and although many Fed Yellen inflation officials said they could be Jul 18 patient on rates because 2.20 Aug 1 weak soft stocks May 17 auto inflation was low, it is unclear Dow sales Jun 27 -372 ECB points whether their forecasts on Aug 10 Exit 2.10 Jun 2 Dow +138K -204 September 20 will take the last jobs points Jun 14 Aug 25 Fed 2.17% of the three expected rate unwind 3pm 2017 hikes off the board for this 2.00 May Jun Jul Aug year. Fed funds futures odds of a December hike are just 34% and many members take their cue from “what the market is saying.” The market’s not moving. The Fed’s not moving. It’s a standoff.
FEDERAL RESERVE POLICY
Selected Fed assets and liabilities Fed H.4.1 statistical release 23-Aug billions, Wednesday data 16-Aug Factors adding reserves 2465.273 2465.247 U.S. Treasury securities Federal agency debt securities 6.757 8.097 Mortgage-backed securities 1778.699 1777.975 Primary credit (Discount Window) 0.005 0.002 Term auction credit (TAF auctions) 0.000 0.000 Asset-backed TALF 0.000 0.000 Maiden Lane (Bear) 1.708 1.708 Maiden Lane II (AIG) 0.000 0.000 Maiden Lane III (AIG) 0.000 0.000 Central bank liquidity swaps 0.036 0.036 Federal Reserve Assets 4510.5 4509.8 3-month Libor % 1.32 1.32 Factors draining reserves Currency in circulation 1566.641 1566.526 Term Deposit Facility 0.000 14.733 Reverse repurchases w/others 169.793 92.840 Reserve Balances (Net Liquidity) 2338.169 2364.971 Treasuries within 15 days 3.197 3.197 Treasuries 16 to 90 days 30.691 19.648 Treasuries 91 days to 1 year 310.315 321.357 Treasuries over 1-yr to 5 years 1163.479 1163.475 Treasuries over 5-yrs to 10 years 324.394 312.184 Treasuries over 10-years 633.197 645.386 **September 10, 2008 is pre-Lehman bankruptcy of 9-15-08
9-Aug
2-Aug
The Fed meets September 19-20 to consider 2465.221 2465.195 8.097 8.097 its monetary policy. A rate hike doesn’t seem 1769.029 1769.026 0.001 0.003 very likely, but we won’t stop forecasting one. 0.000 0.000 0.000 0.000 The Fed inflation mongers are talking like they 1.710 1.710 0.000 0.000 won’t even vote to hike rates in December if 0.000 0.000 0.036 0.035 inflation does not pick up. Let’s see core PCE 4515.8 4513.4 1.31 1.31 inflation is 1.5% and core CPI inflation is 1.7%, 1567.095 1565.431 and the Fed is somehow trying to convey to the 0.000 0.000 103.950 119.334 public that this “low inflation” is unacceptable 2336.315 2291.576 18.655 18.655 and that business and economic conditions are 22.845 22.845 298.287 298.286 not fully healed or something worse: 1129.964 1129.960 361.534 361.528 stagnation and weak demand are causing the 633.937 633.921 drop in inflation. Another reason not to return rates to normal pre-recession levels. Been so long we forgot when the recession ended. 3
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Sep 10 2008** pre-LEH 479.782 0.000 0.000 23.455 150.000 29.287 0.000 0.000 62.000 961.7 2.82 834.477 0.000 0.000 24.964 14.955 31.549 69.272 170.807 91.863 101.337
Fed Chair Yellen spoke in Jackson Hole at 10am New York time on Friday, August 25 on the topic of “Financial Stability a Decade after the Onset of the Crisis.” She gave a broad defense of post-crisis financial rules as they say. The 2017 Economic Policy Symposium is on “Fostering a Dynamic Global Economy.” We want to give the Fed Chair our own note of special thanks for not getting into the nitty gritty of balance sheet wind downs or whether inflation is on its way back up. Nothing policy related. Thank you. It’s a summer Friday in late August. See you all in September.
OTHER ECONOMIC NEWS THIS WEEK Now it’s Existing Home Sales sputtering in the month of July Breaking economy news. Existing home sales are down at the lowest rate of turnover since the summer of 2016. Yesterday, New Home Sales and now today it is the Existing Home stock. Sputtering is probably not the right word unless you are writing for a fake news outfit, you know who you are, as existing home turnover fell just 1.3% from June to 5.44 million at an annual rate. Not a huge deal, and 5.44 million is a relatively fast rate of turnover historically. But existing home sales were higher when Trump was inaugurated in January at 5.69 million and while he is still here, existing home sales are not there. 7.5 7.5 million annual rate
Sep 2005 7.25 mln peak
Existing Home Sales Single-family, condo, co-op
7.0 If you are trying to sell your current house, forget it, you 6.5 6.5 missed it, no matter how Home sales back in 5.0-5.5 good enough May 2013 spectacular your property. 6.0 6.0 zone Bernanke taper in Even real estate June 2003 next few final Fed meetings 5.5 5.5 impresario Donald Trump rate cut to 1.0% couldn't get you a better 5.0 5.0 price. Existing home sales Sales were 5.2 are seasonal and the best 4.5 4.5 million in 1999 when real GDP price is in June each year. was way fast at Dec 2007 4.9% 4.0 4.0 recession In today's report, singlestarts July 2017 family existing home 5.44 mln 3.5 3.5 +2.1% YOY properties fell back to 3.0 3.0 $260,600 in July from the 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 all-time record highs of $265,500 in June. You left a cool 5 grand on the table. Sad. The trend of home prices is still marching upward on a year-on-year basis with home prices in July up 6.3% from last summer, far outstripping the 2.5% rise in workers' average hourly earnings. 7.0
Net, net, existing home sales continue their slide since March which may signal home buyers are not as optimistic as they were earlier this year when President Trump was elected and hopes were high for health care reform, infrastructure spending and tax cuts and tax reform for companies and consumers alike. Despite some regional differences with sales gains in the West and in the South, the data today will feed the concern of some Fed officials who think the current soft patch for inflation may signal some weakening of economic demand in the economy. People certainly are not snapping 4
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up homes at the same pace they did earlier in the year and this certainly will not make the market pencil in a third Fed forecasted rate hike for December this year. The Fed funds futures odds of a December hike are no-go, too-low for a rate hike at just 32%. Stay tuned. Story developing.
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