EC Monthly Macro Monitor – June 2020

A longer-term view shows just how far below trend rates are now. Just getting back to that previous support line would require a move to 1.4% or basically double the current yield. That isn’t as extreme a move as it first appears. Getting back to the worst of the 2016 slowdown would theoretically do the trick.

10-Year TIPS Yield

Real rates were already negative when the stock market peaked on February 19th and continued lower during the virus shutdown. Real rates hit their lows early in the shutdowns (March 6th) and have stayed depressed. Real rates are essentially the intersection of savings and investment, a proxy for real growth. This pretty much speaks for itself.

This longer-term view clearly shows the weak recovery in this cycle. Peak rates after the 2008 crisis were only around 1%. Real rates today are only slightly above the nadir in 2013.

Inflation Expectations

Inflation expectations have recovered from their worst levels but are still well below the long-term average. And they have been declining for most of the post-2008 crisis period. I don’t see this as the problem that many others do. What matters for living standards is real growth and low inflation is not an impediment to growth.

2-Year Treasury Note Yield

2-year Treasury yields are still trading near their lows. The consensus view is that 2-year yields are anchored by Fed policy but history says the Fed is a follower. If the market believes that economic recovery is in progress 2-year yields will rise and eventually the Fed will hike the Fed Funds rate.

Yield Curve

The yield curve has steepened by 56 basis points since its max inversion on August 27th of last year. That was a result of the 2-year note yield falling 134 basis points and the 10-year falling 78 basis points. That is the classic steepening we usually see just prior to recession. This recession happened so quickly that the vast majority of the steepening happened after the recession already started.

The long-term view raises further questions. In previous cycles, the yield curve peaked near the economic bottom. Industrial production, for instance, bottomed in June of 2009 with the yield curve at roughly 250 basis points. The curve today is 50 basis points. Does that mean the worst is yet to come? Or that the curve won’t steepen nearly as much as it has in the past?

Credit Spreads

Credit spreads have improved from their worst levels, mostly from traders front running the Fed buying HYG. I suppose that the recent peak could be as bad as it gets but the recovery better be smooth. There are probably a lot of bankruptcies yet to come before this is over.

US Dollar

The movement of the dollar index in this crisis has been very odd at times. Starting in late February, it fell 5% in a near straight line over 12 days. Then during the heart of the crisis, it rose nearly 10% in just 9 days. Then another 5% drop over 5 days. And now, lately, another 5% selloff over the last month. Where it goes from here may depend on whether we see a second wave of the virus.

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Disclosure: This material has been distributed for informational purposes only. It is the opinion of the author and should not be considered as investment advice or a recommendation of any ...

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Edward Simon 5 months ago Member's comment

No safe haven or are US Treasuries still it?