Last week saw stocks rally and the yield curve flatten as the markets focused on the Federal Reserve (Fed)’s minutes from the October meeting and the horrible terrorist attacks in France. The economic data for the week continued to be solid as unemployment claims fell to 271,000. This data reinforced the market’s view that the U.S. employment conditions continue to improve.
The release of the October Fed meeting minutes last Wednesday set the groundwork for an increase in interest rates at the December Fed meeting. I expect that, barring a materially weak gross domestic product (GDP) number this week, or weak November employment data, the Fed will increase rates in December by 0.25%. I also expect the Fed will be very careful to reiterate that the pace of tightening will be gradual. The bond market reacted to the news by flattening the overall yield curve, led by an increase in yield on short-term Treasuries.
I hold to my view from last week, that stocks will weaken and bond yields will fall going into the Fed tightening. However, I am growing a bit more cautious about this view as last week’s market action did not fit the recent trend of equity weakness and lower yields on U.S. dollar strength and oil weakness. The U.S. dollar hit a new recent high last week versus the Euro and oil slipped back below $40 barrel, while stocks rallied and the yield curve flattened.
I want to wish everyone a very healthy and happy Thanksgiving!
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