Whether or not the FOMC decides to raise rates for the first time in December or early next year, I think Treasury yields will climb from current levels as the overnight rate is increased at pace faster than most expect.
A major consideration in determining monetary policy (and treasury yields) is inflationary expectations. At this juncture expectations are low. In fact the greater concern is of deflation, partially the result of an infinite number of false “liftoffs” and anemic global growth.
I vividly recall 8-9 years ago the prevailing mantra was of price stability, targeting the core inflation rate or the PCE at 2%. The narrative was steep in the Fed’s inflation fighting abilities. Today the core CPI is 1.8% and the core PCE is 1.3%.
The private sector ADP Employment survey is released today. Will the data suggest wage inflation is accelerating, a key inflation component? Based on two caveats I will argue the labor market is tighter than most think hence again modifying the proverbial “lift off” date.
The two caveats are as follows. If one has skills, there is wage inflation. There is ample evidence of wage inflation in the STEM and trade industries. Secondly there is wage inflation at the lowest rung given the progressive attitude regarding minimum wage.
As stated I believe there is a deflationary premium priced into bonds and monetary policy. If today’s data and Friday’s BLS report suggests wages are accelerating, I think the odds of a more aggressive Fed rises exponentially.
Speaking of pricing pressures, oil rose again yesterday, the result of supply disruptions in Libya and Qatar’s remarks that OPEC production will decline in the intermediate future given the lack of investment into oil infrastructure, the result of budgetary pressures where all funds are targeted to entitlement programs.
As noted several days ago the drop in oil is unlikely to be repeated in the next 12 months which in itself is inflationary.
Commenting about yesterday’s market action, the Dow rose on the strength of energy, a sector that was/is extremely oversold where any buying will lift shares. The 10-year rose about 4 basis points in yield as the odds of a change in monetary policy at the December meeting is now over 53%.
What will happen today?
Last night the foreign markets were up. London was up 1.05%, Paris up 0.92% and Frankfurt down 0.25%. China was up 4.31%. Japan up 1.30% and Hang Sang up 2.15%.
The Dow should open flat on confidence that countries outside the US will maintain efforts to underpin growth via stimulus even as the US moves to raise rates. The ADP data and the deluge of profit reports can affect trading. The 10-year is unchanged at 2.20%.
IS THERE WAGE INFLATION?
Ken Engelke
Chief Economic Strategist Managing Director
The views expressed herein are those of Kent Engelke and do not necessarily reflect those of Capitol Securities Management. Any opinions expressed are statements of judgment on this date and are subject to certain risks and uncertainties which could cause actual results to differ materially from those currently anticipated or projected. Any future dividends, interest, yields and event dates listed may be subject to change. An investor cannot invest in an index, and its returns are not indicative of the performance of any specific investment. Past performance is not indicative of future results. This material is being provided for informational purposes only. Any information should not be deemed a recommendation to buy, hold or sell any security. Certain information has been obtained from third-party sources we consider reliable, but we do not guarantee that such information is accurate or complete. This report is not a complete description of the securities, markets, or developments referred to in this material and does not include all available data necessary for making an investment decision. Prior to making an investment decision, please consult with your financial advisor about your individual situation. Investing involves risk and you may incur a profit or loss regardless of strategy selected. There is no guarantee that the statements, opinions or forecasts provided herein will prove to be correct. If you would like to unsubscribe from this e-mail distribution, please reply to this e-mail and indicate that you wish to unsubscribe in your response.
