Weekly Economic Trends and Indicators
Last week we discussed the stock market which has seen record high levels in recent days. This week, the focus stays on the financial markets with an examination of recent activity in the bond markets and how they have reacted to economic news. The focus of this article is on the Treasury market, as it is the largest and most watched bond market. Other bonds tend to move up and down with Treasuries while differing in yield due to the amount of risk. Treasuries are an important benchmark in the market because they are generally regarded as “risk-free." This is because they are backed by the U.S. government, so the risk of default is negligible.
On Friday, the benchmark 10-year Treasury note closed at a price of about 97.73 and a yield of 4.28%. This was down about -0.33 in price and up about 0.04% (or 4 “basis points”) in yield. In bond markets, prices and yields always move in opposite directions. Thus, when commentators say “bonds are up” they are usually referring to prices, which means that yields are down and vice versa. Bond markets respond quickly (almost immediately) to changes in expectations and can often be very reactive to economic news such as new data on inflation, unemployment or gross domestic product. Inflation pushes prices down and yields up because yields must rise to compensate investors for higher inflation. Because higher unemployment or lower GDP are often associated with lower inflation, this type of news tends to push bond prices up and yields down.
In Friday's case, the news driving the market was the higher-than-expected producer price index (PPI), a measure of inflation at the wholesale level. Because this inflation measure was higher, it pushed yields up. This also reflects the market sentiment that the Federal Reserve may wait longer before beginning to cut interest rates.
The 10-year note has been on something of a roller coaster ride lately, with yields rising rapidly as the Fed has raised interest rates to fight inflation, peaking at nearly 5% in October of last year before falling sharply to just under 3.8% in December. The recent rise to just under 4.3% coincides with the stronger-than-expected economic data in the last two months (that we have chronicled here). One can interpret it as a sign that the market is starting to believe that the Fed may indeed wait longer before cutting rates. Strong economic data will keep yields at this level. It may take a couple of solid months of good inflation data to move yields below 4% again.
How does this Wall Street market affect the average consumer and small business on Main Street? The bond market contains a signal of the market’s expectations. It is a noisy signal, meaning that there can be a lot of day-to-day gyration that you have to filter out. However, the trend over several weeks and months is very helpful in understanding expectations for future inflation and interest rates. This helps us understand where mortgage rates are headed, and how credit costs for businesses may be changing.
Next week: Productivity update
