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Market Buzz | Summer 2019

Market Buzz

Treasury yields indicate new recession odds

Federal Reserve Banks of New York and Cleveland financial models put odds of economic recession in the next 12 months at 1 in 3, according to a report in the July 10 Wall Street Journal.

That forecast is connected to a phenomenon known as an inverted yield curve. Recession tends to be linked to times when shorter-term Treasury yields exceed longer-term ones, the article said. Investor concerns run to the fact that short-term Treasury yields have been higher than long-term yields for more than 30 consecutive trading sessions. Three-month bills have produced yields exceeding benchmark 10-year Treasury notes by as much as 0.259 percentage point, the WSJ reported.

“It’s hard to ignore the inversion and the signal the market is sending,” Sean Simko, who heads fixed-income portfolio management at SEI Investments, told the WSJ.

The two financial models putting recession probability in the next year at 1 in 3 are odds unseen since 2007. Although most investors and Fed officials see economic growth decelerating from last year’s 2.9 percent rate, it’s expected that Fed rate cuts still could possibly sustain the decade-long economic expansion. “The end result isn’t written in stone yet,” Mr. Simko said.

Ten-year Treasury yields are referenced in home mortgages, business loans and bonds that fund municipal infrastructure. Mr. Simko told the WSJ that he anticipates them to decline further.

Home builder disappointment grows

Slowing home sales and a tightening labor market have left home builders with flagging confidence compared with same-period measurement from last year, according to a July 10 article in the Wall Street Journal.

Falling interest rates had helped home builder shares to climb in the first half of 2019. The S&P Homebuilders Select Industry index had outperformed the S&P 500 stock index in the timeframe. Low borrowing costs and declining lumber prices proved to be an industry boon earlier in the year.

But in May, single-family housing starts dropped more than 6 percent, dampening industry performance and confidence. The National Association of Home Builders measures builder confidence monthly and found that it declined from May to June and was lower than the same period in 2018.

Also weighing on builder confidence are increased construction costs, a labor shortage and tariff-related trade woes with China, which produces materials. Plus, new home sales dropped 7.8 percent between April and May, ordinarily a robust sales period. West Coast sales dropped nearly 36 percent. After the disappointing spring, which ordinarily accounts for more than 40 percent of annual sales revenues for many builders, it’s unlikely that sales will recover higher, Kenneth Leon, global director of industry and equity research at CFRA, told the WSJ.

“Expectations are going to be less and that will factor into perhaps lower revenue and lower earnings estimates,” Mr. Leon said.

Builders face the challenge now of meeting demands related to competitive new construction. “The biggest difficulty of housing is those entry-level starter homes,” Raymond James analyst Buck Horne told the WSJ. “We’re building about 200,000 houses under $250,000 a year. That number used to be 700,000.”

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