Monday, July 31, 2006

What a difference a weak week makes...

Thank goodness the economy sucks so much. Dow up 351 points last week, 10-years down 5bp. Everyone makes money.

Over the weekend I had a couple people tell me they get confused when they open the newspaper and read one article about an ugly economic statistic being released, then read another article about the Dow being up 100 points. Hey, if the markets weren't so complicated and confusing, we investment managers wouldn't have jobs.

It looks like we are going to have our first really questionable Fed meeting on August 8. Funds futures show a 35% chance of a hike. Here is the chart of Fed Funds futures for August, September and October over the last 30 days. The odds of a hike (to either 5.50% or 5.75% for October) are on the left axis and the 10-year rate is on the right axis.

Note despite the rally last week, the Fed Funds futures picture for September has never changed. I keep thinking that if the Fed stops at 5.50% or even 5.25%, the curve should have some slope, which means the 10-year should be higher than it is now. In order for the 10-year to be at 5%, a Fed cut has to come pretty quickly.

Poole and Yellen speak today. Some people have called Yellen a dove, but that is a relative term.


Mario said...

Just curious, how do you calculate your FF probabilities? Is it based on 2 outcome type analysis? I'm particularly interested in how you were getting 5.50% fully priced in for Sept. meeting.

I've been following this multi-outcome analysis on the Cleveland Fed's website:

Tom G. said...

My data came from Bear Stearns. I should have noted that.

I'm not sure how the Cleveland Fed's figures differ from Bear's. The Cleveland Fed looks like they estimated 20% 5.75, 40% 5.50, and 40% 5.25 on 7/31. Bear had zero for 5.75 and 100% for 5.50.

Tom G. said...

Now Bear has about 50/50 between 5.25% and 5.50% for each meeting from here to November. 100% of 5.50% by December.

If I get some time today I may try to replicate their calculation.

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