Big distraction — It’s enough to make anyone dizzy: DOGE, Ukraine, Nvidia earnings, AI, stock market rout, cryptocurrency rout, tariffs, government shutdown battles, and White House correspondence all made splashy headlines last week. While Gwen Stefani is not reputed for her economic analysis, her song “Big Distraction” offers sage advice for the current moment—it’s not that the aforementioned headlines don’t matter, from a bond-market perspective; they just matter less than the macroeconomic fundamentals.
The Citi Economic Surprise Index (CESI) measures incoming economic data surprises relative to market expectations. A positive reading means that, on balance, data are stronger than consensus estimates; a negative reading means the data disappointed. CESI tends to mimic a sine/cosine wave sequence (dust off that middle-school geometry textbook), as expectations tend to trend. Said differently, economists tend to be overly optimistic or pessimistic until they change their outlook.
While CESI goes through many ups and downs, the overarching trend is helpful to follow as a gauge for economic fundamentals, which have downstream effects on monetary policy and the broader interest-rate complex. Figure 1 contrasts the CESI with the spread between 12-month federal funds rate futures and the spot federal funds rate. The chart highlights how economic-data surprises affect the market’s pricing of monetary policy over the subsequent 12 months.
The yield on the 10-year Treasury note follows a similar trend (Figure 2). As economic data deteriorates, either outright or relative to expectations, rate-cut hopefuls become more emboldened, and interest rates decline in sympathy. Similarly, when economic fundamentals strengthen, rate-cut hopefuls retreat and bond sellers emerge.
The takeaway: We will endure more fireworks than we have grown accustomed to. Nevertheless, calmer heads are likely to prevail. The path of monetary policy—and, subsequently, interest rates—will ultimately follow the economic agenda.
Recent data, for instance, have come in weaker and, with it, increased hopes of additional rate cuts and lower rates more broadly. However, the Federal Open Market Committee (FOMC) will only inch closer to this outcome if the economic data warrant it; so far, the impetus for that is elusive.
For example, Beth Hammack, president of the Cleveland Fed, said: “I believe that monetary policy has the luxury of being patient as we assess the path forward, and this will likely mean holding the federal funds rate steady for some time … A patient approach will allow us time to monitor the trajectories for the labor market and inflation and how the economy in general is performing in the current rate environment.”
FROM THE DESK
Agency CMBS — The drop in yields brought out Ginnie supply. Unfortunately, the REMIC community has struggled to place the tranched loan product—and, as such, has forced new-issue spreads wider by about five basis points (bps). Fannie DUS spreads widened in sympathy, but only by roughly three bps. We expect headwinds in the Ginnie space in the near term.
Municipals — AAA tax-exempt yields were lower throughout the yield curve, week over week. The housing and healthcare sectors were relatively light in terms of new issuance. After several large senior deals priced in the market two weeks ago, we saw the remaining deals on the calendar get pushed to early or mid-March. As March begins, the market expects issuance to exceed reinvestment from principal and interest payments owed to investors. Whether spreads widen as a result is to be determined. Municipal bond funds had their sixth straight week of inflows, with $785 million entering (year-to-date inflows of $5.64 billion). Meanwhile, high-yield funds saw inflows of $420 million.
The information contained herein, including any expression of opinion, has been obtained from, or is based upon, resources believed to be reliable, but is not guaranteed as to accuracy or completeness. This is not intended to be an offer to buy or sell or a solicitation of an offer to buy or sell securities, if any referred to herein. Lument Securities, LLC may from time to time have a position in one or more of any securities mentioned herein. Lument Securities, LLC or one of its affiliates may from time to time perform investment banking or other business for any company mentioned.
