February 26, 2018

Stocks opened higher again today (Dow +281 pts; SPX +.7%). Most sectors are in the green, led by technology (+1%), financials (+.8%) and strangely enough, telecoms (+.8%). Utilities are flat. The VIX Index, which measures expected stock market volatility, is down around 16.4. European markets closed up about .5% and Asian was mostly higher overnight. Commodities are also trading mostly higher, with WTI crude oil back up to $64/barrel after falling to $59 earlier this month. Bonds are trading lower as yields edge lower. Interest rates, which have surged in recent months, are taking a little breather. The 5-year Treasury yield is trading at 2.60% and the 10-year is at 2.85%. 

Famed bond fund manager Jeffrey Gundlach says US Treasury note yields at current levels “make sense.” In explaining why, he references the well-known rule of thumb that nominal GDP growth (about 4.5%) should be somewhere near the 10-year yield (currently at 2.85%). Of course, there has been a huge gap between those figures for years, and most economists and investment strategists have attributed the gap to massive global monetary stimulus, which kept rates at artificially low levels. But Mr. Gundlach has an interesting take on that gap. He says our 10-year yield should actually be closer to the average of GDP and a “completing global yield” such as the German sovereign 10-year bond (now trading around .7%). In other words, the US 10-year Treasury yield should be around 2.6%. In short, he’s suggesting that interest rates don’t need to spike higher in the near-term and perhaps the fixed income market isn’t terribly over-valued. And by the way, he says, if bond yields don’t break upward quickly, but instead can stabilize around current levels, the stock market should be ok. His research shows a “green light for growth” as long as the pace of interest rate acceleration remains measured.  

New home sales stumbled in January, falling nearly 8% from December levels. The headline sounds bad but the reality isn’t nearly so. Buying activity did slow, but a good portion of that 8% decline was due to the fact that November and December home sales were revised up to account for a surge in homebuying activity. In addition, weather turned bad in January and that always dampens activity. Finally, I should point out that with housing, monthly data is often misleading and investors need to focus on the trend. New home sales have been accelerating steadily since 2011, propped up by an improving jobs market. It is true that mortgage rates are rising and home affordability is falling, but we’ve under-built new homes for roughly 10 years and there is clearly a supply deficit, especially at the lower end.

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