Market Update: July 9, 2023
Nominal Rates & the Fed
Lots of activity in the bond market and some equity market weakness. Money market rates are all above the current target range set by the Fed. Capital market rates are all approaching their cycle high rates. And the outflow from money market funds seems to have reversed. Total money market funds increased by $43.7 billion: retail increased by $17.25 billion and institutional increased by $26.45 billion. Investors must balance the evaluation of risk vs. return and money market investments hold far less risk than equities, so they’re a very attractive alternative to equities, especially at an average of 5.5%.
The next FOMC meeting is just two weeks away, and we’ll be getting June’s CPI and PPI reports this week, as well. And this Friday will bring some notable reports from major banks. FedWatch shows a 93% likelihood that the Fed will be raising rates by another 25 basis points (bps). And the Bank of Canada, which has historically provided a preview of our own Fed’s actions, will be meeting soon to announce their rate decision. Last cycle, they gave indications of raising rates, but decided ultimately to pause; this time, the indications are leaning towards a pause, which means they might likely raise rates. Because of the nature of the mortgage market, Canadian households are far more sensitive to changes in interest rates than US households. But the FOMC has been clear about their direction, including phrasing the last hold as a “pause,” indicating that they’ll be returning to their regularly scheduled programming real soon!
Real Rates, Federal Funds Rate, and TLT
More excitement among real yields, with the 5-year, 7-year, and 10-year reaching new cycle highs.
Federal fund futures (FFF) don’t show much movement but seem to bottom out in November. If nothing breaks critically in the economy, it seems as if the market is pricing in a prediction of no rate cuts by March 2024.
TLT, the major long-term bond ETF index, had a terrible week and fell a staggering 375 bps.
Housing & OAS
The Primary Mortgage Market Survey shows 30-yr. Fixed Rate Mortgages (FRM) are at 6.81% (up 10 bps from last week) and 15-yr. FRM are at 6.24% (up just 18 bps from last week).
- Mortgage applications are down 4.4%
- Refinances are down 4.08%
- Purchases are down 4.64%
For the first time in months, home developers collectively reported losses last week. These are on the tail-end of year-to-date highs, so these pullbacks are most likely eating into some inflated profits, but new housing is still high. It would take consecutive weeks of losses to bring housing back to a place that many new home buyers want, but this is a start!
Grains, Lumber, & Timber
Quarterly report released by World Agricultural Supply and Demand (WASDE) was bearish on corn, but bullish on soybeans, while wheat was mostly flat. Since then, corn has flattened out along with wheat, and soybeans have given back some gains, as well. The “fiscal year,” so to speak, for corn and soy is September 1 to August 31 every year, following the harvest cycle. The cycle for wheat is June 1 to May 31, so we’re already in the new “fiscal year” for wheat. The fluctuations we’ll likely see in the coming months will either be because of issues with supply or heightened demand. Stay tuned…!
Canada’s fire season has begun at a tragically record-pace, breaking records for area burned, evacuations, and cost. In response, lumber and timber REITs have pulled back. The image below shows the fires currently raging in Canada vs. active fires in the US:
Canadian Dollar / Japanese Yen
Japan’s household spending year-over-year (YoY) has fell by 4% while average cash earnings have risen by 2.5%, meaning more Japanese households are holding onto their bump in cash flow.
In Canada, unemployment is rising, as is the participation rate, and average hourly wages fell below previous reports.
Jobs & Retirements
The ADP National Employment Report (aka “The Always Wrong ADP”) released their numbers for June:
- Initial Claims – 248K
- Job Openings – 9.8M
- Hires – 6.208M
- Separations – 5.871M
- Retirements – 301K
- Layoffs – 1.555M
- Job quits – 4.051M
This data reveals some heavy turnover under the surface: while hires totaled over 6 million, separations reached an almost equally high number. Retirements have been higher than what we’d expect for a while, potentially a lingering effect from the pandemic, which accelerated many workers’ retirement timelines.
So what’s causing these excessive retirements and what effect will they have on our labor market? A glance at the graph below will help us begin to answer this question:
The vertical gray line represents the start of the COVID pandemic and the steep dive in the participation rate is obvious. In the post-pandemic era, this rate continues to wane. From the business owner perspective, this could have some benefits to a company’s cash flow, since workers near retirement usually cost more than younger workers. While businesses will ultimately lose experienced and valuable workers, the boost to a company’s margins may prove to be a worthy tradeoff.
Last year, the Fed released a paper titled “‘The Great Retirement Boom’: The Pandemic-Era Surge in Retirements and Implications for Future Labor Force Participation.” They offer conclusions and data to explain the pattern of excessive retirements. The Fed’s estimates on retirement numbers aligned almost perfectly with the real data since 2000. The first wave of Baby Boomers turned 65 in 2010 and the Fed predicted a natural rise in retirement rates. But the real data began to depart from their predictions beginning in early 2020, when retirement rates soared and have remained high in the years following COVID’s initial surge.
So what are the effects of these excessive retirements? The participation rate is one of the first indicators to fall. Companies are seeing a lower headcount of workers, but not due to layoffs or firings. This should have little effect on initial claims and create a lower employment cost per employee. But this will have an adverse effect on productivity since seasoned workers, given their extensive experience, take less time to complete their jobs; newer employees, while lower in cost, take longer to complete their jobs because they require proper training and lack the experience of the seasoned workers.
Looking at the Employment Change, Household Survey, and Establishment Survey, we see manufacturing rebounding. We also see Average Hourly Earnings and Average Weekly Earnings increasing, meaning wages are improving and employers are offering more hours for employees to work: both of these leads to the same result, which is more money for households that will likely be spent out in the market. And across the educational spectrum (from less than high school to Bachelors and above), there have been increases in employment for all workers, which is a green light to the Fed to keep increasing rates—why wouldn’t they if employment is so strong?
This newsletter is a synopsis of a continual series of updates by a market analyst Mark Meldrum. Mark Meldrum is a CFA that provides weekly updates on the market, but they tend to be an hour long. Here is a synopsis of his video found here.
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