- Market discounts an additional Fed rate hike in just the last two sessions
- Will Powell today throw the markets a bone at the Fed’s important conference?
- U.S. factory orders expected to fall
- China’s Caixin services PMI expected to fall
Market discounts an additional Fed rate hike in just the last two sessions — The markets just since last Friday have boosted expectations for Fed policy by adding another full 25 bp rate cut. The Dec 2019 federal funds rate contract (on a yield basis) plunged by a total of -27 bp on Friday/Monday to 1.79%, discounting a total of 61 bp of rate cuts by year-end or 2.4 cuts. Meanwhile, The Dec 2020 contract on Friday/Monday plunged by a similar -27.5 bp to 1.35%, discounting a total of 100 bp of rate cuts through the end of 2020, or four rate cuts.
The sharp increase in expectations for Fed rate cuts has helped drive the Treasury yields lower, along with falling inflation expectations driven by the sharp recent drop in crude oil prices. The 10-year breakeven inflation expectations rate has plunged by 22 bp in the past month to the current level of 1.73%, which is just 4 bp above last Wednesday’s 4-3/4 month low of 1.702%.
The 10-year T-note on Monday fell to a new 1-3/4 year low of 2.06% and has plunged by -36 bp in just the past two weeks. The 10-year T-note yield is now below the level of about 2.35% seen when Congress in December 2017 passed the massive 2018 tax cut law. Meanwhile, the 2-year T-note yield has plunged by -23 bp just in the past two sessions to yesterday’s new 1-1/2 year low of 1.83%.
The Treasury market, if not the stock market, is displaying serious concern about the U.S. economic outlook due to the expanding U.S. trade war and weaker U.S. economic data. Monday’s U.S. May ISM manufacturing index, for example, unexpectedly fell by -0.7 points to a 2-1/2 year low of 52.1, the lowest level seen so far in the Trump presidency. Confidence is also slipping in the U.S. service sector as seen by the fact that the Markit U.S. services PMI in April-May fell sharply by a total of -4.4 points to 50.9, falling closer to the boom-bust level of 50.
The markets were particularly alarmed by President Trump’s surprise threat last Thursday of a 5% tariff on Mexican imports starting June 10, ramping up to 25% by October if Mexico doesn’t halt migration to the U.S. Over the weekend, the markets then got the news that the trade war spread to India with the announcement that the Trump administration plans to slap tariffs on India by ending its developed-country status. News also emerged over the weekend that the Trump administration toyed with the idea of slapping a tariff on Australian aluminum before being talked out of it by U.S. officials in the Defense department and elsewhere.
Meanwhile, the US/Chinese trade war has worsened in the past few sessions. China late last week announced the creation of its own blacklist in response to the U.S. blacklisting of Huawei. China over the weekend then announced that FedEx is under investigation, hinting that FedEx might be the first candidate for the new blacklist. FedEx on Monday closed -1.26% lower, adding to the -19.3% plunge seen over the past four weeks.
China’s media last week also made it clear that China has a plan ready to cut off U.S. access to the rare earth metals that it receives from China, which constitute 80% of all U.S. imports of rare earths. China is clearly digging in for an extended trade war and is getting ready for quick retaliation if President Trump goes through with his threat for a 25% tariff on another $300 billion of Chinese goods as soon as mid-June.
Will Powell today throw the markets a bone at the Fed’s important conference? — Fed Chair Jerome Powell today will deliver the welcoming remarks at the start of a two-day Fed conference at the Chicago Fed to discuss the Fed’s policy framework. The markets will be waiting to see whether Mr. Powell gives any hints that the Fed might be willing to ease monetary policy soon in response to the rising risks. As of now, the Fed is firmly on hold and has given no decisive signs that a rate-cut could be on the horizon, although a few Fed members have started venturing in that direction.
The 2-day Fed conference that begins today is the centerpiece of the Fed’s so-called “listening tour” that is part of its big-picture review of its policy objectives and levers. The main area of speculation is whether the Fed might start leaning more heavily on average-inflation targeting, which would mean that the Fed would allow inflation to periodically rise above the 2% target in order to offset periods when inflation is below target. The Fed and most other major central banks continue to struggle with below-target inflation and the deflationary trends seen since the 2007/09 global financial crisis.
U.S. factory orders expected to fall — The market consensus is for today’s April factory orders report to fall by -1.0% m/m, reversing part of the March increase of +1.9% (+0.8% ex-transportation). Factory orders have flattened out since last October and were up by only +1.9% y/y in March versus the increase of +10.3% y/y seen as recently as last summer. The ISM manufacturing new orders sub-index in April fell sharply by -5.7 points to 51.7, although the sub-index in yesterday’s report recovered modestly by +1.0 points.
China’s Caixin services PMI expected to fall — The markets were disturbed by last Thursday night’s news that China’s May national manufacturing PMI fell by -0.7 points to 49,4, the May new orders sub-index fell by -1.6 points to 49.8, and the May new export orders sub-index fell by -2.7 points to 46.5. However, worries about that report were reduced by Sunday’s May Caixin Chinese manufacturing PMI of unchanged at 50.2. In addition, last Thursday’s May national non-manufacturing PMI was unchanged at 54.3. The consensus is for tonight’s May Caixin China services PMI to fall -0.5 points to 54.0.
