This has been a slow blogging month so far, mainly because I haven't seen much change in the economic and financial environment. The market remains worried about slow growth and weaker corporate profits, but less so than a few months ago, thanks to rising oil prices and signs of stability in China. Meanwhile, it's quite likely that the U.S. economy is still growing, albeit slowly, as jobs growth and the labor market both look healthy. There is plenty of upside potential in the future, but much depends on the future direction of fiscal policy, and that in turn depends on the November elections - with the outcome still very much up in the air.
So here are some updated charts that I find interesting, in no particular order, with some brief commentary below each one:
Industrial commodity prices are up 15% since last December. At the very least, this suggests that global economic activity is strengthening on the margin. The Chinese yuan has been stable over this same period, suggesting further that conditions in China are not deteriorating, as many had feared.
Commodities have risen in price in all major currencies since December. This is not just a dollar-driven phenomenon, and that reinforces the notion that rising commodity prices reflect improving economic conditions.
Oil prices have been much more volatile than other commodity prices (note the difference in magnitudes of the two y-axes). However, both have tended to move together. Oil prices are up an astounding 70% since their mid-February lows.
The dollar has been relatively flat since early last year, and this appears to have provided some important support to commodity prices of all types.
Housing prices have been rising for the past four years. In real terms, prices have tended to rise about 1.4% per year, on average. The prices today do not seem to be out of line with historical trends. In the past four years, home prices have risen, on average, by an annualized 8%.
Fear has been an important source of stock market volatility in recent years. Fears have subsided of late, and that has allowed stock prices to rise.
Credit spreads have subsided, as well as fear in general. Most of the fear was concentrated in the oil patch, and rising oil prices have brought a sigh of relief to the entire corporate bond market.
The number of active drilling rigs in the U.S. has plunged by almost 80% since late 2014, in direct response to lower oil prices. This illustrates the power of market prices, since lower prices have worked to discourage oil exploration and production, while at the same time encouraging more oil consumption. Crude oil production in the U.S. has declined by 7% since last June, after almost doubling in the previous six years.
Fixed mortgage rates are within inches of all-time record lows. There may never be a better time to refinance a mortgage or take out a new mortgage.
Applications for new mortgages have surged by almost 50% since late 2014, largely in response to low and declining mortgage rates. This reflects a significant improvement in housing market fundamentals.
The spread between the yield on MBS collateral and the 10-year Treasury has been remarkably stable (70-80 bps) for the past several years. This stability suggests that the appetite for MBS has been relatively strong even as the demand for new mortgages has surged of late: borrowers are more willing to borrow, and lenders are more willing to lend.
According to the Bloomberg Financial Conditions Index, conditions are relatively healthy, though still shy of what they have been during earlier periods when markets were optimistic and economic growth was stronger.
U.S. equities have outperformed eurozone equities by a significant and perhaps unprecedented margin over the past seven years. Eurozone equities have made no progress on balance since 1999, in contrast to the U.S. equity market, which has attained new highs.
10-year Treasury yields today are only 45 bps above their all-time record lows of mid-2012. Relative to core inflation, 10-year Treasury yields are negative. Yes, negative yields exist in the U.S. The real yield on 2-year Treasuries is now -1.4%! Yields are very low and even negative relative to inflation, relative to rising home prices, and relative to rising commodity prices. This encourages borrowing and speculation. In the late 1970s, negative real yields contributed to rising inflation. Some central banks have resorted to negative interest rates in an attempt to boost inflation. Since negative interest rates strongly discourage holding cash, they are inflationary, since they weaken the demand for money at a time when there is an abundant supply of money, effectively creating an oversupply of money. To the central banks that are paying people to borrow money, I say "be careful of what you wish."
The chart above compares the price of gold with the price of TIPS (with the inverse of the real yield on TIPS being a proxy for their price). Both have been in a declining trend for the past several years. I've argued that this reflects a declining demand for safe assets and a gradual return of the confidence that was lost in the wake of the 2008 financial crisis. I think it also reflects less concern regarding the potential for QE to boost inflation. But the recent upturn in both prices could be an early sign that negative interest rates are beginning to bite: the market is now willing to pay more for the protection these two assets offer from rising inflation and general uncertainty. This may be the canary in the coal mine of rising inflation.
Even though 10-year and 30-year Treasury yields are very close to all-time record lows, the spread between the two is relatively high, and rising from a historical perspective. This is the bond market's way of saying that short-term interest rates are quite likely to rise in the future, and it is also a sign that the economy is not on the verge of another recession (the yield curve typically flattens in advance of recessions).