U.S. 2-year and 10-year yields invert for the first time since 2007. Find out more in this edition of “The Week in Review.”
Last Week Review
Volatile week sends global equities lower. The combination of ongoing U.S.-China trade tensions, an inverted yield curve and weak economic data from China and Germany led to a 1.2% decline in global equities last week1. Global equities remain up 12.6% year-to-date2. Interest rates dipped across the yield curve in the U.S. leading to a temporary inversion at the 2-year and 10-year tenors and the 30-year Treasury yield falling below 2% for the first time ever3. High yield and investment grade credit spreads widened 22 and 4 basis points, respectively4.
U.S. 2-year and 10-year yields invert for the first time since 2007. Last Wednesday, the 10-year U.S. Treasury yield dropped below the 2-year Treasury yield for the first time since the global financial crisis. An inversion at these two tenors on the curve has always preceded a recession when looking at historical data starting in 1977. Since 1977, recessions typically occurred 13-24 months after the initial inversion. Similar to the lag in recessions, equity markets have often performed fine in the months following an inversion until the recession starts to materialize. While the yield curve inversion raises investor expectations on the odds of a recession, U.S. economic growth continues to hold up well especially on the consumer side of the economy and credit markets have not shown signs of significant distress5.
U.S. delays 10% tariffs on some Chinese goods until mid-December. After President Trump escalated trade tensions with his August 1 tweet, China responded by allowing its currency to weaken to 7 renminbi per dollar. Last Tuesday, President Trump delayed tariffs on about $156 billion in goods until mid-December to ease the trade war’s effect on the U.S. economy. Markets reacted positively, finishing the day up more than 1.5% though optimism faded as China announced later on that it still plans to retaliate against U.S. tariffs. Also, the growth picture weakened in China as data fell short of consensus across fixed asset investment, industrial production and retail sales6.
Slight upside surprise in U.S. inflation and strong retail data. A broad-based increase across all consumer baskets pushed the July readings for core and headline Consumer Price Index (CPI) above economist surveys and June’s figures. July’s inflation uptick last Tuesday did not reduce investor expectations for future Federal Reserve rate cuts. Markets are pricing in about a 95% chance of at least two rate cuts by year end7. The consumer environment in the U.S. remains very solid following a strong earnings release from Walmart (WMT) – a key consumer bellwether – that included raised guidance for its U.S. sales growth. Also, both U.S. retail sales and consumer sentiment data topped consensus expectations and prior levels.
This Week Preview
Flash PMI data to offer insights into the growth outlook. Manufacturing Purchasing Managers’ Index (PMI) data has been trending lower globally and sits in contractionary territory (below 50) across most regions. The services sector has held up much better with nearly all major regions comfortably in expansionary territory. In general, consensus expectations call for modest deterioration in both sets of figures in August.
Kansas City Fed holds Jackson Hole economic policy symposium. In addition to the release of recent Federal Reserve and European Central Bank (ECB) meeting minutes this week, global central bank leaders will meet at the annual Fed economic symposium on Thursday through Saturday. Investors will be looking for clues on future policy actions from the Fed and ECB, especially following comments by an ECB official last week setting the stage for the central bank to surprise markets in September with a significant quantitative easing package8.
2Q earnings season is approaching the finish line. 93% of S&P 500 companies have reported earnings for the second quarter resulting in 1.8% year-over-year (y/y) earnings growth and 3.7% y/y sales growth. Both measures are currently above consensus expectations. The majority of the remaining companies will report out of the consumer discretionary and technology sectors. Notable companies releasing earnings this week include Home Depot (HD), Kohl’s (KSS), Target (TGT) and Salesforce (CRM)9.
Unless otherwise noted, all opinions expressed in this post are those of the author and do not necessarily represent the views of Northern Trust. Information contained herein is current as of the date appearing only and is subject to change without notice.
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- 1. Bloomberg, MSCI World Index returns 12Aug2019 – 16Aug2019.
- 2. Bloomberg, MSCI World Index returns 02Jan2019 – 16Aug2019.
- 3. Bloomberg, 10-Year Treasury Rate 12Aug2019 – 16Aug2019. Bloomberg 2-Year Treasury Rate 12Aug2019 – 16Aug2019. Bloomberg, 30-Year Treasury Rate 12Aug2019 – 16Aug2019.
- 4. Bloomberg Barclays US High Yield Credit Index 12Aug2019 – 16Aug2019. Bloomberg Barclays US Credit Index 12Aug2019 – 16Aug2019.
- 5. Franck, Thomas. CNBC. Main yield curve inverts as 2-year yield tops 10-year rate, triggering recession warning. Retrieved on 19Aug2019 from https://cnbc.com/2019/08/13/us-bonds-yield-curve-at-flattest-level-since-2007-amid-risk-off-sentiment.html
- 6. Politi, James, Gray, Alistair, Henderson, Richard, Fei, Fan. Financial Times. US to delay some tariffs on Chinese goods. Retrieved on 19Aug2019 from https://ft.com/content/37fff232-bdd2-11e9-89e2-41e555e96722.
- 7. Bloomberg, Fed Funds Futures Index 19Aug2019. Fed funds futures are used by banks and fixed-income portfolio managers to hedge against fluctuations in the short-term interest rate market. They are also a common tool traders use to take speculative positions on future Federal Reserve monetary policy.
- 8. Rocco, Matthew. Week ahead: Jackson Hole, Fed and ECB minutes, Italy. Retrieved on 19Aug2019 from https://ft.com/content/4da0621a-c02b-11e9-b350-db00d509634e.
- 9. Thomson Retuers. S&P 500 Earnings Dashboard 19Aug2019. Retrieved from http://lipperalpha.financial.thomsonreuters.com