Powell Sees Strong Economic Fundamentals but Yield Curve Leaning Toward Recession

Based on these comments, Powell falls smack in the middle of the S&P Global Ratings conclusion and the yield curve predictions. He doesn’t see a recession like the yield curve is predicting, but he doesn’t see a rate hike coming either.
James Hyerczyk
Fed Chairman Jerome Powell

In the wake of the U.S. Federal Reserve’s decision to keep interest rates unchanged and to slash all projections of a rate hike this year comes a couple of completely different assessments of the moves. According to U.S.-based financial services giant S&P Global Ratings, the Fed is “not yet done” with rate hikes. However, government fixed income yields are delivering, by one measure, a possible recession indication that hasn’t happened since 2007.

All this suggests is be prepared for volatility in the Treasury markets with one camp indicating the possibility of at least one rate hike, and the other indicating lower rates.

S&P Global Ratings Analyst Sees Another Rate Hike

Speaking to CNBC’s “Capital Connection” on Thursday, Chief Asia-Pacific Economist Shaun Roache said he thinks another increase may come sometime this year or early next year. He also said better-than-expected economic growth and strong labor markets leave room for a hike.

“Given the ‘soft patch’ the global economy is going through, Roache acknowledged that ‘it makes sense for the Fed to pause to watch the data to see how things evolve.’ Still, he said he felt that concerns about global growth were ‘a little bit overdone.’”

S&P Global expects growth to be “something north of 2 percent this year” and jobs to be created to the tune of about 130,000 per month – a number Roache said is above the “natural rate” of employment growth for the American economy.

“It means the unemployment rate will continue to edge lower, wage growth will continue to edge higher, and that’s a scenario in which the Fed probably will hike maybe one more time this year, maybe early next year,” Roache added.

Yield Curve Predicting Something Else

So while Federal Reserve Chairman Jerome Powell still sees a strong U.S. economy as well as S&P Global Ratings, bond traders sees the economy differently.

According to Bespoke Investment Group, the spread, or yield curve, between the 3-month and 10-year Treasury notes just broke the longest streak ever of being above 10 basis points, or 0.1 percentage point. “The two maturities were last below that level in September 2007, a run of 3,009 trading days.” In Thursday afternoon trading, the spread was just 5 basis points, or as close to inversion as just before the financial crisis.

The yield compression is being described as a “dark signal” for an economy coming off its best year since the recovery began in mid-2009.

“Yield curves are responding to what they see, to what I believe is a global economic slowdown,” said Peter Boockvar, chief investment officer at Bleakley Advisory Group. “You don’t see this kind of move in curves, not just here but everywhere, unless you get one.”

Fed Chair Powell’s Finds Middle Ground

On Wednesday, Fed Chair Jerome Powell seemed to be unfazed by the sudden change in policy. He said that despite the recent dip in economic growth that “economic fundamentals are still very strong,” adding that Fed officials “see a favorable outlook for this year.”

Powell went on to say that “We foresee some weakening, but we don’t see a recession.”

Based on these comments, Powell falls smack in the middle of the S&P Global Ratings conclusion and the yield curve predictions. He doesn’t see a recession like the yield curve is predicting, but he doesn’t see a rate hike coming either.

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