In this week’s Monday Market Insights, we discuss recent U.S. legislative actions and consumer inflation data. Our Chart of the Week highlights improving loan demand for banks. Finally, we look at the reversal in the U.S. 10-year Treasury yield and how it impacts our positioning.
Top Weekly Themes
- U.S. Senators Build a Bridge. Last Tuesday, the U.S. Senate passed a $1 trillion infrastructure package on a bipartisan basis following months of back-and-forth negotiations. The INVEST in America Act passed the senate 69 to 30, with 19 Republicans joining all 50 Democrats to approve the bill. The legislation includes $110 billion for roads and bridges, $66 billion for rail maintenance and expansion, $73 billion for the electric grid and power infrastructure, $65 billion for broadband internet as well as $42 billion for airports and ports/waterways. The bill is expected to be paid for from various sources, including unspent COVID-related funds such as $200 billion of relief funds and $50 billion of unemployment supplemental funds, among other sources. The Senate’s approval of the infrastructure package sends it forward to the House of Representatives (House), where it could face a contentious debate. The bill is likely to be held hostage in the House until there is an agreement on Democrat’s ~$3.5 trillion budget. Following the Senate’s INVEST in America Act passage, we have seen positive moves in our holdings with infrastructure-related exposure, such as Astec Industries and UFP Industries as they are beneficiaries of increased spending on roads and bridges.
- Prices Rise Modestly in July. Last week we received the latest inflation data from the U.S. Bureau of Labor Statistics for July. The Consumer Price Index (CPI) decelerated on a month-over-month basis to an increase of 0.5% compared to 0.9% in June. The increase was in-line with expectations, although the Core CPI reading, which excludes food & energy, was below estimates at 0.3% compared to 0.4%. On an annualized basis, the July CPI is up 5.4%, consistent with June’s reading as inflation remains elevated but not accelerating, providing support to the common notion of “transitory” factors. Notable drivers for the month-over-month increase were higher prices for food, shelter, energy, and new vehicles. We continue to expect current elevated inflation trends to prove temporary as supply chain challenges subside. During our participation on company earnings calls this quarter we heard countless examples of price inflation, but most management teams agree with our position that many constraints should lift between now and mid-2022.
- Senate Pivots to $3.5 Trillion Budget. Less than 24 hours after the U.S. Senate passed the bipartisan infrastructure package it voted and passed, on a 50/50 party-line vote, the reconciliation instructions for a $3.5 trillion FY2022 budget. This is the first step in the budget process that sets the high-level numbers and framework that will then be filled in by committees over the coming months. The $3.5 trillion budget will allow for an additional $1.7 trillion in net new spending as a portion of spending is expected to be offset by $1.7 trillion in tax increases. The new spending is expected to include a focus on climate change, health care and income transfers. Potential examples include tax credits for clean energy, subsidized childcare, extension of the expanded child tax credit as well as expanded subsidies related to the Affordable Care Act. On the tax side, expectations are for higher rates on income, dividends, capital gains, estates, as well as higher corporate tax rates. We anticipate the details will shift as the legislation moves through the budget reconciliation process, but passage is likely to have a negative impact on economic activity. This is due to the timing differences between tax and spending increases. Many of the tax-related policies are expected to be enacted immediately, while spending increases will likely take more time to flow through the economy.
|Russell 1000 Value||(0.6)||18.8||35.6||10.83||11.72||1.87|
|Russell 1000 Growth||(0.8)||20.4||34.1||24.38||24.36||0.66|
|MSCI EM (Emerging Markets)||(1.8)||1.6||18.5||10.65||10.56||2.07*|
|Fixed Income||Week||YTD||1-Year||3-Year||5-Year||Div Yield|
|Bloomberg Barclays US Aggregate||0.4||(0.4)||0.0||5.72||3.29||1.42|
|Bloomberg Barclays US High Yield – Corporate||0.3||5.0||10.9||7.17||6.86||3.75|
|Bloomberg Barclays Municipal Bond||0.1||1.6||3.4||5.26||3.45||0.96|
|Bloomberg Barclays Global Aggregate x US (Country)||0.4||(3.1)||1.0||4.10||2.10||0.85|
|Crude Oil WTI (NYM $/bbl) Continuous||4.8||49.6||89.7||1.7||10.6||72.6|
|Natural Gas (NYM $/mmbtu) Continuous||11.1||116.2||131.2||25.4||13.3||5.5|
|Gold NYMEX Near Term ($/ozt)||0.1||(5.3)||(8.4)||14.5||6.4||1,792.4|
|Copper Cash Official LME ($/mt)||2.5||22.6||39.3||16.9||15.0||9,488.5|
|Currencies||1 Week Ago||YTD||1-Year Ago||3-Years Ago||5-Years Ago||Current Level|
|U.S. Dollar per Euro||1.18||1.22||1.19||1.17||1.12||1.18|
|Japanese Yen per U.S. Dollar||110.34||103.25||105.48||112.10||102.40||109.30|
|U.S. Dollar per British Pounds||1.37||1.37||1.29||1.31||1.32||1.38|
Chart of the Week
Economy Re-levering, a Boon for Banks
- The extreme measures taken through fiscal and monetary policies during the onset of the COVID-19 pandemic generated a significant amount of liquidity in the U.S. Financial system. As consumers and corporations looked to preserve cash it led to a decline in loan demand and excess deposits at banks across the country.
- The decline in loan demand and excess deposits have pressured the bottom line of banks. While rates and a steeper yield curve are important for banks, they also need greater demand for lending, a dynamic that had yet to be seen.
- Tides may be starting to shift. The charts above clearly show that loan demand is recovering as COVID disruptions wane and the amount of excess liquidity in the financial system is drawn down.
- We expect these increases in lending to contribute to outperformance of value and small/mid-caps as those areas have higher exposure to banks as well as more economically sensitive sectors.
10 Year Treasuries Reverse Course
After a multi-month-long decline in the U.S. 10-year treasury, long-term yields began to accelerate higher last week. Since the post-pandemic 10-year yield peaked at 1.78% in March, it has slid lower as concerns about the Fed tightening too quickly and coronavirus Delta variant have pushed long-term rates lower and flattened the yield curve in recent months. However, last week seemed to mark a shift in this dynamic. The included chart presents a clear bottoming of the 10-year treasury at 1.126% followed by a trend breakout higher to 1.37% as of mid-morning on August 11. The abrupt shift is likely the result of multiple factors including an unwind of investor positioning, a softening of Fed tightening expectations and the market looking beyond impacts related to the Delta variant. Regardless of the reason, the move higher in rates should benefit our equity and fixed income portfolios which have been positioned for higher long-term rates and a steeper yield curve.