GDP was revised…wait for it…downward
Remember the much stronger-than-expected initial GDP print we got for the first quarter? It was revised down to 3.1% from 3.2% (economists were slightly more pessimistic, ready for a revision down to 3%). The revisions of importance – business investment, inventories, and inflation were revised downward while exports were revised upward. Read: the weakness in consumer and corporate metrics remain.
Moral of the story: The strength in first quarter GDP is still being driven by temporary factors that could easily be reversed in the second quarter. Given the escalating trade tensions with China, I don’t see corporate profits, manufacturing, or business investment rebounding in the second quarter.
Consumers keeping us on track
Consumer spending was a drag on first quarter GDP and April’s numbers don’t seem to be showing significant signs of recovery as consumer spending only rose by 0.3% after a much stronger 10-year high 1.1% print in March. Additionally, the core inflation number (PCE Index) rose at 1.6%, significantly below the Fed’s 2% target. Incomes, however, are still rising at a steady clip and increased by 0.5% in April.
Moral of the story: Consumers aren’t spending as much this year as they were last year when gasoline prices were lower and Trump’s tax reform provided a one-time boost in spending capacity. However, consumers are still chugging along and moving forward, which should keep our economy on track as long as the labor market continues to show strength. The rest of the economy, conversely, is at a standstill until trade tensions cool off. BTW, on that front, we’re now also fighting with Mexico.
The inversion is back
Remember how I had mentioned the implications of an inverted yield curve at the end of March? Well over the last week, the 10-year Treasury yield fell below the 3-month Treasury yield again and the yield curve remained inverted all of last week. In fact, the 10-year yield has plummeted so dramatically over the last week that the spread between the two rates has expanded from 3 basis points at the end of last week to 21 basis points at the end of this week. Cue panic. The stock market has been taking a serious beating the entire month of May because of escalating trade tensions and sentiment is not rosy at the moment. I repeat, not rosy.
Moral of the story: Data has shown that if the yield curve between the 10-year and 3-month treasury rates remains inverted for 10 straight days, a recession generally follows in about a year. The yield curve has been inverted for six straight days so far, and it seems unlikely that the trend could reverse without some sort of positive catalyst on the trade front. This has also led the market to assign a much higher probability to the Fed cutting rates in the near future. Depending on how yields react in the upcoming week, all eyes will be on the Fed’s reaction.