- Dovish FOMC outcome pushes T-note yields lower
- U.S. core PPI expected to edge lower to +0.4% y/y
- Unemployment claims expected to remain highÂ
- 30-year T-bond auction to yield near 1.51%
Dovish FOMC outcome pushes T-note yields lower — The 10-year T-note yield on Wednesday fell by about 4 bp after the FOMC results, while the 2-year T-note yield fell by about 2 bp. The 10-year T-note yield finally closed the day down -10 bp at 0.73%, falling sharply by -23 bp from last Friday’s 3-month high of 0.96%, which was posted after the stronger than expected May payroll report of +2.5 million.
T-note yields fell on Wednesday after the FOMC predicted that its funds rate target will remain near zero at least into 2023. The market was also encouraged that the Fed stopped tapering its daily Treasury purchases and announced that it will buy $80 billion per month of Treasury securities going forward, with no ending date set as yet.
The Fed also said that it will buy $40 billion MBS securities per month. That produced a total QE program of $120 billion per month, which is far above the monthly QE purchases seen in the wake of the Great Recession.
The Fed has already boosted its balance sheet by a total of $3.0 trillion (+72%) since the end of February to a record of $7.2 trillion. The Fed’s balance sheet has soared to 33% of U.S. GDP from 19% before the pandemic. If the Fed keeps its new QE program going at $120 billion per month through year-end, the Fed’s balance sheet would reach nearly $8 trillion by the end of the year, up by $3.8 trillion (+90%) from the end of February.
The FOMC on Wednesday reinstated its Fed-dot forecasts and agreed with the market consensus that the funds rate target will remain unchanged at 0.00%/0.25% at least into 2023. All FOMC members predicted an unchanged funds rate through 2021 and only two members predicted a hike in 2022.
The Treasury market on Wednesday was also encouraged that the Fed discussed a yield-curve control policy, although there was no decision. The market consensus is that the Fed by September will announce some form of yield-curve control, which would likely take the form of a Fed target for perhaps the 2-year or 5-year T-note yields. The Fed’s goal would be to prevent yields from rising, which would be bullish for T-note prices.
The Fed was generally downbeat about the economy, which undercut stock prices. The post-meeting FOMC statement said, “The ongoing public health crisis will weigh heavily on economic activity, employment, and inflation in the near term, and poses considerable risks to the economic outlook over the medium term.”
The stock market was also a bit discouraged by the FOMC’s median forecast that U.S. GDP will fall by -6.5% in 2020, which was worse than the current consensus for a -5.7% drop. However, the FOMC is forecasting a +5.0% rebound in 2021, which is better than the consensus of +4.0%.
The markets are nervous about the upcoming Q2 GDP report, which will be released on July 30. The consensus is for a plunge of -10.0% q/q (-34.4% q/q annualized), which would produce a peak-to-trough drop of -11.2% in the first half of 2020. That would qualify as the worst recession in post-war history and would be larger than the -10% drop that is commonly defined as a depression.
U.S. core PPI expected to edge lower to +0.4% y/y — The consensus is for today’s May final-demand PPI to be unchanged from April at -1.2% y/y and for the core PPI to ease to +0.4% y/y from April’s +0.6%. Today’s expected core PPI report of +0.4% y/y would be a new 4-1/2 year low.
Yesterday’s May core CPI report fell to a 9-year low of +1.2% y/y. The core PCE deflator in April fell to a 10-year low of +1.0% y/y and is likely to fall farther in the May report. The FOMC is forecasting a very low core PCE deflator this year of +1.0%, rising to +1.5% in 2021 and +1.7% in 2022. However, even by 2022, the Fed’s expected core PCE deflator of +1.7% would be below the Fed’s +2.0% inflation target. The 10-year breakeven inflation expectations rate is currently trading at 1.26%, which means the market is currently forecasting that inflation over the next 10 years will average only +1.26%.
Unemployment claims expected to remain high — The market consensus is for today’s weekly initial unemployment claims to fall by -327,000 to 1.550 million. That would be down from the previous week’s level of 1.877 million but would show that an extraordinary number of people are still being laid off and are applying for unemployment benefits. The consensus is for continuing claims to fall -1.487 million to 20.0 million, which would be a step in the right direction after last week’s +649,000 increase to 21.487 million.
The markets remain highly suspicious of the unemployment claims data due to mistakes by state unemployment offices and confusion about the unemployment claims filed under the CARES act. Nevertheless, the markets were encouraged by last Friday’s news that May payroll jobs rose by +2.5 million versus expectations for a -7.5 million decline.
30-year T-bond auction to yield near 1.51% — The Treasury today will sell $19 billion of reopened 30-year T-bonds, wrapping up this week’s $52 billion coupon package. The 30-year T-bond yield yesterday fell -7 bp to 1.51%, which was down by -25 bp from last Friday’s 2-3/4 month high of 1.76%. The $19 billion size of today’s auction is up by $2 billion from April’s reopening and by $3 billion from the $16 billion reopening size that prevailed during 2019 and early 2020.
