Grannis Farley

Fixed Income Market Commentary by Kevin Giddis

October 15, 2019

The Treasury market is trading higher this morning as the bond market returns to “work” this morning after being off for the Columbus Day/Indigenous People’s Day holiday, and is really just now taking a crack at what happened on Friday with trade and responding to what has happened since. We closed trading of the 10-year note on Thursday at 1.67%, got the news on Phase 1 of a trade deal with China, which took 10’s higher to a 1.73% by the time we closed for the day on Friday. Over the weekend and most of yesterday’s trading in the other markets indicated that while there was excitement that the ball has moved, the details are still a bit sketchy. That takes us to today, and with trading of 10’s back down to 1.69%, I am not sure the bond market sees the trade deal as an actual “deal” just yet.

While there are a lot of details left to be worked out, a stoppage of additional tariffs is a good first start, and as we progress on trade, yields could actually tick back up. If it turns out it was all smoke and mirrors, then look for the 10-year to test 1.50% once again. There is so much that winds into this approach, which includes current and future economic growth and inflation. While the trade war with China is likely the “end all” for both stocks and bond markets, the lack of inflation is likely what brings the Fed to the table. While there aren’t any economic numbers coming out today, tomorrow’s Retail Sales, the release of the Beige Book, and Thursday’s housing data could be where the market turns to next. Will a “skinny” deal between the U.S. and China be enough to stop the weakness in the manufacturing service sectors? Probably not.

If we set aside trade, the rest of the world’s economies are falling deeper and deeper into a slumber that may take years to wake up from. The U.S. needs to keep that from happening, and that is why I believe that the Fed will lower rates at the end of this month, and again in December. St. Louis Fed President James Bullard spoke about this today, in which he basically said that the FOMC should cut rates as an “insurance policy” against both low inflation and weakening economic growth. This recovery is old, mature, and showing signs of aging in place, and likely needs a boost of something to keep going.

The way you get there is to pay attention to the shape of the yield curve and credit spreads. The spread between the 2-year and the 10-year is a “robust” 15 basis points and that is ok. What’s even better is that the spread between the 3-month bill and the 10-year note is a positive 3 basis points. The Atlanta Fed has suggested that this inversion is more telling than the 2’s/10’s, and the fact that it is now positive is likely good for the U.S. economy, good for interest rates and the forward bond and stock markets. Too little or too much policy could screw this up and that is why the pressure remains on the Fed to get it right.

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