Opposition to Third Stimulus Starts to be Heard
Equities hit record-highs yesterday on the belief that at least a good chunk of President Biden’s $1.9 trillion stimulus package would become law. Those high water marks didn’t survive the day, however, as investors booked gains and a meandering day was the result, with Treasuries also not finding much traction. As for the stimulus proposal, it has yet to be taken up in Congress as the Senate remains busy swearing in new members, and holding the first of what will be many confirmation hearings on Biden’s Cabinet picks. We expect soon, though, attention will turn to the proposal and we’ll start to get a feel for how much of that $1.9 trillion price tag will survive. The measure can pass through reconciliation so the Democrats, if they hold together, can pass it without Republican help. Eyes will turn to some of the more conservative Democrats like Joe Manchin (WV) and John Tester (MT) to try and gauge their sentiments. Finally, in this week’s podcast we’re taking a deep dive into what to expect with the economy and rates in 2021 with Joe Keating, Co-Chief Investment Officer at NBCS Asset Management, and one of today’s leading economists. The iTunes link can be found here and the Spotify link here.
The FOMC meets for the first time in 2021 next week and while there isn’t much suspense that any change is coming to monetary policy, the post-meeting statement and press conference will still garner some headlines. There won’t be any new forecasts issued—that will come at the next meeting on March 17— so this will be more a placeholder event. One topic that is sure to come up in the Q&A will be when will the Fed start discussing the tapering of quantitative easing purchases.
There was some chatter a couple weeks ago, notably from Atlanta Fed President Rafael Bostic, who said that if the economy was performing well into the second half of the year tapering discussions would be appropriate. Later in the week both Vice Chair Richard Clarida and Fed Chair Jay Powell stressed that there’s very little chance tapering discussions will occur this year and we suspect that will be the message again at next week’s meeting. It provided, however, a useful lesson that not all Fed Speak is equal. Fed regional presidents sometimes in wanting to make a splash during their year as voting members on the FOMC go overboard with comments. The longer-tenured governors, with permanent FOMC voting authority, like Clarida and Powell, are usually more measured in their comments and they carry more weight. This is not to pick on Bostic. He is usually very thoughtful in remarks but presidents sometimes go big when it’s not called for. So, always consider the source when it comes to Fed speak.
TIPS Breakeven Inflation Rates Rise Above 2%. What to Make of it?
Last week in this space we talked about the Copper/Gold Ratio pointing to still higher rates on the 10-year Treasury. This week we wanted to highlight one of the factors that has been pushing Treasury yields higher as well and that is the TIPS Breakeven Rates. TIPS or Treasury Inflation Protected Securities are Treasury securities that carry a small coupon but provide additional compensation tied to the CPI. When an investor buys a TIP security you can tease out of the price the level of inflation that the investor would need to match a nominal Treasury yield over the life of the security. The graph below looks at the trend in those breakeven inflation expectations for the 5-year and 10-year security.
As you see, both the 5-year and 10-year breakeven rates have moved over 2%, which exceeds the level that was reached pre-pandemic and also is the highest in over two years. This boost in inflation expectation is one reason nominal Treasury yields have been biased higher in the last few months. The thinking is that as the second stimulus works through the economy and as vaccinations spread across the populace that economic growth will resume strongly and bring with it supply and demand driven inflation. While there will be some supply shocks given the damage to supply chains and low inventories, those are typically one-off price spikes and when supply catches up to demand price levels recede. The more durable of price increases is the demand side. And recall, even when we had full employment prior to the pandemic, with unemployment below 4% for long stretches, we didn’t get inflation up to 2%, at least not on a durable basis. Currently, unemployment is 6.7%, three points higher than prior to the pandemic. Recall too the economy is two-thirds consumer consumption-based and while stimulus checks will fund a nice one-time boost to spending what will boost it even more and provide a basis for a more durable increase in inflation will be getting unemployment back below 4%, and near full employment. That may provide the firepower necessary to get a durable move to 2% inflation. We say may because as we mentioned before, even when we did have full employment it wasn’t enough to get inflation above 2%. The global deflationary forces that worked against it then are still with us today so we’re a bit skeptical we’ll see this rapid rise in inflation anytime soon. Thus, we think this move above 2% in breakeven rates is probably due for a correction at some point in the near future and that should slow, if not stall, the advance higher of nominal Treasury yields.
|Treasury Curve||Today||Chg Last Wk.||LIBOR Rates||Today||Chg Last Wk.||FF/Prime||Rate||Swap Rates||Rate|
|3 Month||0.07%||-0.01%||1 Mo LIBOR||0.13%||Unch||FF Target Rate||0.00%-0.25%||3 Year||0.267%|
|6 Month||0.08%||-0.01%||3 Mo LIBOR||0.22%||-0.03%||Prime Rate||3.25%||5 Year||0.526%|
|2 Year||0.12%||-0.02%||6 Mo LIBOR||0.24%||-0.01%||IOER||0.10%||10 Year||1.10%|
|10 Year||1.10%||-0.02%||12 Mo LIBOR||0.33%||Unch||SOFR||0.06%|
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