For Our Valued Clients
Economic & Market Update
North American Management
Weekly Economic & Market Update
Week of February 25, 2008
Contact:
David Thompson CFA
617-695-2127
dthompson@namcorp.com
Summary Bullets:
- Economic data seems to point to an increased risk of a recession.
- The Fed expects the U.S. economy to grow approximately 1.3% - 2% this year.
- Worries over inflation have moved to the forefront after a higher than expected consumer price index report.
- In our view the Treasury market has already priced in a 2.0% Fed funds rate.
This Week's Market Comments:
- Economic data supporting a soft landing has diminished in favor of a recession. Approximately 50% of economists are intimating that we are already in a recession. Industrial production levels are still in positive territory despite several regional manufacturing surveys suggesting otherwise. The soft landing camp continues to hope that inventory rebuilding, strong exports and the Bush stimulus package will help to keep the economy afloat.
- According to January’s Fed minutes, US economic activity decelerated sharply in recent months, but remained in positive territory. Their economic outlook expects the U.S. economy to grow approximately 1.3% - 2% this year with unemployment rising to 5.2% - 5.3%.
- Worries over inflation have moved to the forefront after a higher than expected consumer price index report surprised on the upside. A weak dollar is adding to worries, and inflation remains a key policy risk that is not relenting as the Fed hoped, and could limit future rate cuts.
- Credit risks remain front and center in driving both the stock and bond market prices. Moody’s report that 10% of all home loans are “upside down,” with the loan amount exceeding the property value, suggests more defaults and falling home prices. The dilemma for banks and financial institutions is how to price the underlying mortgage backed assets, pointing to more write downs and contracting credit availability.
- The Treasury yield curve has steepened as dramatically as in any previous cycle. Since September 2007, the 2yr - 10yr yield spread has jumped 144 basis points. This reflects a 215 basis point drop in the 2yr Treasury yield, but only a 69 basis point decline in the 10yr Treasury note yield, despite a 225 basis point cut in the Fed Funds rate. The explanation for the steep Treasury curve is explained by investor expectations for a significantly weaker economy and aggressive Fed easing. In our view the Treasury market has already priced in a 2.0% Fed funds rate. More importantly the Fed has made it clear that once it has completed its task of mitigating downside risks to the economy, it will then turn its attention to its mandate to control inflation, and will likely take back some of the cuts, possibly by year end.
The information included in this discussion is taken from sources that North American Management believes to be reliable. Notwithstanding, North American Management does not guarantee the accuracy of the data.