The Treasury market is trading higher this morning as traders continue to prefer a “risk-off” stance in light of the risk of more tariffs and an outright trade war. That is factor number one. Factor number two is that the globe is showing signs of economic and political instability, which is in turn, pushing even more money into the safe haven trade. In the middle of all of this appears to be a market perception that the Fed won’t have the ability to raise rates 4 times in 2018, no matter how many times they telegraph it. The market, at this point, isn’t really buying the whole “inflation is coming, inflation is coming” story that the FOMC is selling, even though it may turn out to be true. One thing to remember is that it is the beginning of summer, so some of the doldrums that accompany this time of year could be affecting trading. This week’s economic calendar is a microcosm of that. Nothing today, but tomorrow we will get Housing Starts and Building Permits followed by Existing Home Sales on Wednesday. On Thursday, we will get Jobless Claims and the Philadelphia Fed Survey. The same can be said for the Treasury with only the bill auctions and a small ($5 billion) 30-year TIPS sale. Let’s go back to the trade war for a minute. Historically, hardly anyone wins a trade war, but the effect on the economic growth tends to be lasting. Over time, adding taxes to goods and services likely hurts the growth of both nations and probably adds to the inflation bucket by default. Neither is good and that is why market observers are pulling back, looking for safer assets, and riding out this storm. Never discount the effect of “self-inflicted” wounds. Moving along, the bond market is experiencing even more flattening (2’s/10’s at 36 basis points), mostly for the reasons above and not because the U.S. economy is about to flip. No, this time it’s about the Fed doing what it thinks is right (raising short-term rates to curb inflation) vs. what the long-end of the market thinks is going to happen. Both can be right and the longer each holds these positions near and dear to their heart, the curve will continue to flatten and the self-fulfilling prophecy of the inversion still has a chance. Hopefully cooler heads will prevail…but it isn’t likely.
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