Though the Fed held the line on rates at its June meeting, a dovish tone seems to be helping ease the entire yield curve lower while giving stocks a lift. Meanwhile, an uptick in Middle East tensions appears to be giving crude oil a boost.
FIGURE 1: LONG RATES DRIFTING LOWER. Rates fell across the yield curve after yesterday's Fed meeting, with the benchmark 10-year Treasury (TNX) falling this week to its lowest level since November 2016. In early trading Thursday, the Ten-year dipped below 2%—quite a milestone considering it traded above 3% as recently as a mere six months ago. Data source: Cboe Global Markets. Chart source: The thinkorswim® platform from TD Ameritrade. For illustrative purposes only. Past performance does not guarantee future results.
Sectors and Rates: Something to consider as the Fed turns more dovish is how this change in tone might affect sectors. Utilities and Health Care were two sectors that showed particular strength over the last month, and that might reflect hopes that dividend-yielding stocks could do better in a lower-rate environment. Financials, though, typically don’t do as well when rates start dropping. Investor worries about the sector might be showing up if you look at the last month and the last three months of Financial performance. The sector trails the broader S&P 500 Index (SPX) in both of those time frames. Remember, the Treasury market inversion that happened last month didn’t just go away. Three-month yields still outpace 10-year yields, a sign that investors are piling into longer-term instruments even at lower rates. This isn’t a normal situation, and almost certainly isn’t a healthy one for banks.
Lending a Hand? Meanwhile, if the Fed goes ahead and lowers rates next month, maybe it could slow the flow of overseas cash into U.S. Treasuries. Perhaps that could even help lead to a bit more economic vigor for Europe, where much of that cash appears come from. Just a quick review: European bond yields are extremely low, with the German bund recently hitting a record low yield of around minus 0.33%. That means people buying these instruments are paying to lose money. That’s probably one reason why so much money has flowed into U.S. Treasuries over the last month.
However, when U.S. Treasuries rally, their yields go down. Recently, U.S. 10-year Treasury yields fell to 1.97%, from 2.68% at the start of the year and above 3.2% last fall (see figure 1 above). That means investors are getting less for their money, though the yield still seems pretty high compared to negative yields in Japan and Germany. Still, falling U.S. rates just might give overseas investors a pause, and maybe cause them to not invest as much in U.S. Treasuries. It’s a long shot, but maybe some of that cash could end up being spent or invested by overseas investors in their home countries, instead of here.
Greenspan Revisited: With Fed Chair Jerome Powell reiterating yesterday that the Fed would do what it takes to keep the expansion going, things right now look very similar to the relationship that the Fed and the markets had back in the 1990s. That’s the era of the so-called “Greenspan put,” slang for the market treating the Fed like a protective "put” option. At that time, if stocks fell too far, people were confident that then-Fed Chair Alan Greenspan would step in and lower rates to ease the pain.
One possible metric that makes 2019 different from 1995 is the occupant of the Oval Office. The president has publicly made it very clear he wants rate cuts, and blames the Fed for the economy’s failure to grow faster. The Fed, however, is an independent body, and Powell might feel pressure not to look like he’s just doing the president’s bidding.
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Economic calendar for week of June 17. Source: Briefing.com
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