This Week's Capital Markets Update

Rate movement last week was dominated by the Federal Reserve meeting statement along with updated economic projections and their influence on the expectations for continued elevated inflation. While the Committee made no changes to monetary policy following its two-day meeting, the updated “Dot Plot,” which illustrates members’ opinions on the future level of the fed funds rate, showed more members view that rate rising sooner than previously expected. Additionally, the economic projections revealed a higher forecast for core PCE for the remainder of the year as well as a significant slowdown in GDP in 2022 as the bump from this year’s fiscal stimulus fades.

While the fed funds rate may not change this year, expectations are that the Fed will begin to wind down asset purchases towards the end of 2021 after providing markets with ample notice. After a brisk sell-off following the meeting statement and press conference on Wednesday, mortgage pricing bounced back on Thursday although still finished the week worse. While the Fed maintains its willingness to let inflation run a little hotter than it would like in the interest of supporting full employment, persistently high inflation will have to be addressed in the form of tighter monetary policy.

On Friday, we saw a May retail sales report that highlighted the continuing shift from goods to higher contact services now available due to increased vaccination rates. After a year of spending on home improvements, consumers seem ready to increase spending at restaurants, health & personal care retailers as well as clothing stores. While headline sales declined, the declines were primarily on motor vehicles & parts dealers and building materials & supplies stores, both of which benefited over the last year. Industrial production and specifically manufacturing continued to expand in May and would have likely seen larger increases if not for the bottlenecks in the global supply chain.

Housing starts rose 3.6 percent in May as demand for single-family homes, townhomes, condos, and apartments was strong. Although pricing increases for building materials as well as shortages have led to delays for many projects. Producers across the economic spectrum continue to face inflationary pressures for raw and finished goods with producer prices up 6.6 percent over the last year. These inflationary pressures will continue to weigh on the financial markets and their expectations for future rates. Unlike the period following in the previous recession where the markets and policy makers were waiting for inflation to materialize, inflation is here and policy makers will need to act if it does not subside as they initially projected.

This week’s economic calendar includes updates on housing-related data, durable goods, Markit PMIs with PCE and Michigan sentiment on Friday. Fedspeak picks up after last week’s Fed events and includes Chair Powell testifying on the pandemic tomorrow afternoon. Today’s calendar is light on data with just the Chicago Fed National Activity Index for May. The Desk of the NY Fed will purchase up to $4.1 billion of securities backed by conventional loans. We begin Monday with Agency MBS prices a shade better/lower and the 10-year yielding 1.43 in the very early going after closing last week at 1.45 percent.

Commentary by Rob Chrisman