The Week Ahead: Busy Week as Fed Decides on Policy Future

The S&P 500 has been sporadic since the year began. Gains have been seen in 12 of the past 15 weeks, but over the past five days the index dropped 2.64% and a similar drop this week would erase the year-to-date gains. On the other hand, the index has advanced 36.1% since March 10, and last week could be seen as a blip along a fairly steady three-month climb.

This week’s direction will be influenced by real estate news, labor data, spending reports, GDP revisions, and output results. On top of that, Wednesday’s policy announcement from the Federal Reserve could have a major impact on currency and bond markets.

In this morning’s Wall Street Journal, Frederic Mishkin, a former Governor of the Federal Reserve Board, said the Fed will face a “serious dilemma” at the meeting. as interest rates for long-term bonds and mortgage rates are both rising.

“The rise in long-term interest rates is particularly worrisome, because it has the potential to choke off economic recovery and lead to further deterioration in the housing market,” Mishkin wrote. “That would put an already weakened financial system under stress.”

He went on to say that interest rates are rising as the growing fiscal imbalance reduces appetite for bonds. This causes the Fed, supposedly an apolitical institution, to buy up Treasuries and drive interest rates lower, which makes them an enabler of fiscal irresponsibility. The solution, Mishkin said, was for the Treasury to find a fiscally responsible long-term solution, including the reform of entitlement programs such as Social Security and Medicare.

Key Data Releases This Week:

Tuesday:

10:00 ― Existing Home Sales saw a 2.9% gain to an annualized pace of 4.680 million units in April. Excess inventories and reduced prices are helping buyers get into the market, but continued job losses are reducing the pool of potential home buyers. For May, the pending home sales index points to another gain, with the consensus looking for a 3.6% gain to 4.850 million units. Even if that turns out to be correct, rising interest rates in June will put a damper on optimism for a quick recovery in real estate.

Wednesday:

7:00 ― The day begins with the MBA Mortgage Applications survey, which is being closely watched for the average 30-year mortgage rate. The rate has been above 5% for three weeks now, and even though it edged down to 5.5% in last week’s survey, loan applications fell nearly 16% in the week.

8:30 ― Durable Goods dropped 2.2% in March, rebounded 1.7% in April, and in May analysts expect the volatility to continue with a 0.5% decline. Forecasts are divided from -2.0% to +1.0%, as defense orders could be hard to forecast this month following a spike in April.

10:00 ― The third real estate release of the week is expected to show housing conditions slowly improving in May. The annualized pace of New Home Sales index is expected to climb from 352k to 365k. At the current sales pace there are 10.1-months worth of supply on the market, compared to about 6 months in a healthy market, so any improvement will be welcome.

2:15 ― The FOMC Policy Annoucement could be the biggest release of the week if the Fed decides to shift policy, release updated forecasts, or hint at future tightening. The key interest rate is widely expected to remain in the zero to 0.25% band, so attention will be placed on the central bank’s purchasing of longer-term bonds and mortgage-backed securities.

Analysts at IHS Global Insight expect the central bank to keep growth forecasts unchanged even as they lift forecasts for the unemployment rate.

“However, the Fed may have to come to terms with the likely stalling effect of higher mortgage rates and gasoline prices on the timing and strength of the long-awaited recovery,” they added. “In this regard, the FOMC will likely see downside risks to the core inflation rate, and may rebalance the focus of its quantitative programs in favor of term mortgage, treasury and TALF assets and away from increasingly redundant short-term bank credit.”

Thursday:

8:30 ― No revisions are expected Q1 GDP release, which showed a contraction of 5.7% in the preliminary reading last month, compared to -6.1% in the advance forecast. Recent data has indicated that foreign trade improved more than initial expectations, but that should be offset by reduced inventories.

8:30 ― The weekly Jobless Claims report has been above 600k fore 20 consecutive weeks now, and the consensus is that 613,000 Americans filed for benefits in the week ending June 20. Last week’s gain was attributed, in part, to auto-sector lay-offs.

Continuing claims moderated for the first time since January in last week’s report, but with 6.687 million recipients of employment insurance a one-week dip wasn’t anything to be too excited about.

Friday:

8:30 ― The Personal Income & Outlay report gives data on consumption, income trends, and inflation. The spending component is expected to gain 0.3% in May after dipping 0.1% in April; personal income is set to gain 0.4% following a half-percentage point gain in April (boosted by unemployment insurance); and the core PCE price index should rise a benign 0.1% in May, following a 0.3% gain a month earlier.

Ellen Zentner from the Bank of Tokyo-Mitsubishi gives a more optimistic reading: “For personal income the big story in May will be the $250 social security checks that were sent out to 52 million recipients over the month. If you annualize that $13 billion in payments, you get a big $156 billion boost to personal income in May, worth about one percentage point of growth.  Without the social security payments, personal income in May would have been flat.”

10:00 ― Predictions are split on whether Consumer Sentiment will continue the recent rise that began in March, but all analysts agree on one thing: the move this month will be small. Following a 69.0 reading in May, the consensus looks for a 69.7 score in June, with forecasts ranging from 68.5 to 70.0.

Sentiment for recovery has been on the rise, but the rebound in gasoline prices can have an immediate impact on consumer surveys, and the unemployment rate continues to approach double-digits.

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