The yield curve has steepened by nearly four basis points this morning as weaker-than-expected data on consumer confidence and Chicago-area manufacturing boosts Fed easing expectations. Two-year yields have fallen 3 basis points to 3.81%, a level not seen since October 1993, as the market moves toward pricing in a slim possibility of a 50 basis point rate cut in August and higher odds of another cut in October. Meanwhile, the 30-year bond yield has risen slightly to 5.52%, leaving the 2/30 spread at 171 basis points, its widest level since June 20. The bond futures contract continues to attract selling when it approaches the 104 level, which would represent a 61.8% retracement of the decline from the March 22 high of 107 8/32 to the low of 98 24/32 on May 15.
10:42 AM
ECONOMY TALK: The weak Chicago purchasing managers index was greeted with very little enthusiasm in the bond market and stock prices actually rose soon after the release. The reaction may be rooted in a few factors. First, the Chicago index may be repeating its recent pattern of reflecting greater weakness than the national data. Over the past year, the Chicago index has repeatedly been weaker than its 10-year trend relative to the national statistics (the NAPM). Second, two other regional surveys released today actually rose; both the Milwaukee index and the manufacturing component of the New York purchasers report rose. Third, market participants appear to be positing that the weakness in the report could translate into more rate cuts than previously discounted. In fact, the market has now increased its probability of a 50 basis point rate cut to about 10% from near zero yesterday. This has helped the short-end of the yield curve and equities at the expense of bonds. Fourth, the bond market is nearing big resistance levels. For example, if the front-month T-bond future goes above 104 03/32, it will have retraced 61.8% of the decline it posted from this year's peak of 107 08/32 on March 22nd to its low of 98 31/32 on May 15th. Market participants may not be willing to embrace the notion of a reversal just yet. Fifth, forward looking data such as final demand indicators, may be firming, if last week's strong pace of chain store sales are any guide. If so, the laggard manufacturing sector will firm before long. |
