Strange Bedfellows: A Stronger Economy & Lower Yields

This week’s upbeat data on housing has inspired a new round of charges that the Federal Reserve “is clearly behind the curve.” Economist Scott Grannis proclaims: “Great news: the Fed is likely to raise rates sooner rather than later.” He explains that “nominal GDP has been growing at about a 4% pace for most of the past four years, yet the Fed has kept short-term rates extremely low. This is unsustainable.”

Housing has been a weak spot for the US economy in recent months, but the latest data suggests that a summer rebound is underway. Three new data points this week tell the story:

  • Confidence among home builders this month rose to the highest level since January, according to the Housing Market Index (HMI) that’s published by the National Association of Home Builders (NAHB). “Each of the three components of the HMI registered consecutive gains for the past three months, which is a positive sign that builder confidence appears to be firming following an uneven spring,” notes David Crowe, NAHB’s chief economist. “Factors contributing to this rise include sustained job growth, historically low mortgage rates and affordable home prices, which are helping to unleash pent-up demand.”
  • New residential housing construction posted a sharp upturn last month. Housing starts surged nearly 16% in August, increasing at the fastest pace in July since last November.
  • Existing home sales climbed more than expected last month, rising to the highest annualized level so far this year, according to data published by the National Association of Realtors (NAR). “The number of houses for sale is higher than a year ago and tamer price increases are giving prospective buyers less hesitation about entering the market,” says  Lawrence Yun, NAR chief economist. “More people are buying homes compared to earlier in the year and this trend should continue with interest rates remaining low and apartment rents on the rise.”

The encouraging news on housing arrives at a time when the labor market continues to show a healthy run of persistent growth. Yesterday’s news that jobless claims continue to trend lower bodes well for anticipating that the August report on nonfarm payrolls that’s scheduled for release on September 5 will maintain the moderately faster run of growth we’ve seen in recent months.

Overall, the US macro trend looks bullish, as reflected in a broad spectrum of indicators through July. Why, then, are US interest rates still inching lower? Although the benchmark US 10-year Treasury yield is off its recent low of 2.34% from last week, yesterday’s 2.41% close doesn’t break the downward drift that’s been in force in recent months.


This much is clear: the soft yields in the US aren’t a function of a weakening macro profile for the world’s biggest economy. As I wrote a week ago, “the 10-year yield is sliding primarily because demand for safety around the world.” That’s still true today, for a mix of geopolitical and economic reasons beyond American shores. If the US benchmark yield was priced solely on the basis of the US economic trend of late, the rate would almost surely be higher, perhaps much higher.

Will today’s scheduled talk by Fed Chair Janet Yellen on the labor market change anyone’s perception? Perhaps, although old habits still die hard when it comes to macro analysis these days. The burden of looking backward, one might say, weighs heavily on our wetware. And for good reason: it’s still not completely clear that the macro trend is headed for something materially better or that we’ve broken free of the post-crash blowback. But there’s progress and the data is making a strong case that moderate growth will roll on.

“While the U.S. economic recovery is showing some very positive signs, the outlook remains fragile,” Alessandro Giansanti, senior rates strategist at ING Bank, tells Bloomberg. “We don’t think Yellen will turn very hawkish. It’s likely she will reiterate the same message that the Fed is heading toward the exit. Over time, we expect Treasury yields to rise, but very gradually.”