US TREASURY OUTLOOK - Fed meeting, retail sales
Friday December 5, 1:37 pm ET
By Ellen Freilich
NEW YORK, Dec 5 (Reuters) - Federal Reserve policymakers meet next week and the government reports on November retail sales and producer prices, but Treasuries may end the week little changed.
Everyone expects the Fed to hold interest rates steady at its Dec. 9 meeting and most believe the central bank will assert once again that the risk of inflation becoming undesirably low remains its predominant concern.
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But many analysts also believe that the Fed may drop the oft-mentioned "considerable period" phrase from its assertion that policy accommodation can be maintained.
To ease any market disappointment over such a deletion, however, many believe the Fed will insert a phrase to assure the market that it sees no near-term need for higher rates.
Such a prescription should leave financial markets, including Treasuries, relatively unperturbed, analysts said.
"The market has pretty completely discounted the probability that the 'considerable period' phrase will be dropped, so if it is dropped, it won't have much impact," said David Resler, chief economist at Nomura Securities.
Should the Fed retain the "considerable period" phrase in the context of monetary accommodation, "we'll probably have a 10-basis-point rally across the curve," Resler said.
Michael Moran, chief economist at Daiwa Securities America, thinks the Fed is more likely to drop its "considerable period" pledge at the end of its late January meeting, than at its Dec. 9 gathering. But Moran is one who believes that if the Fed deletes the phrase, it will substitute another to tell the markets that it intends to be patient or that it sees no need to move preemptively against inflation.
"There will be something in the statement to imply that the Fed will not be considering tighter policy anytime soon," he said. "That's because there is a lot of slack in the economy now and it's likely that that slack will be absorbed slowly because of the economy's underlying productivity."
Another factor that supports the outlook for an extended period of low interest rates is the view of some Fed officials think the current inflation rate is still too low, Moran said.
"They're nervous about the potential shocks that could push us closer to deflation," he said.
RETAIL SALES, PRODUCER PRICES
Reports on November retail sales and producer prices will be of some interest to the market, analysts said.
The government's producer price index (PPI), due on Friday, is expected to emit much more subdued readings than it did in October when the overall index jumped 0.8 percent and the index without volatile food and energy items rose 0.5 percent.
"We had a very large increase in the PPI last month, but that was just random variation," said Moran, whose own forecast is for a 0.2 percent drop in both the total and core indexes.
Consumer spending kept the last recession shallow and eventually managed to put the economy back on a growth path. Recent data have shown that consumers (aided by low interest rates and tax cuts) are not alone in pulling the economy forward. Now, manufacturing has picked up, signifying that capital spending by businesses has begun to pull some weight. And four consecutive monthly employment reports show that businesses are have also begun to hire again, if cautiously.
But since consumers' willingness to spend is still crucial fuel for the economy, the market will pay attention to the November retail sales report, due on Thursday. Economists are looking for moderate increases in sales overall and somewhat more subdued results when auto sales are excluded.
"I think retail sales will be a reasonably good report, although not a stellar one," said Moran. "It's still an important factor for the economy."
What this means for Treasuries is that prices and yields could maintain the levels they reached after the Labor Department issued a November employment report on Friday that was more subdued than anticipated.
"With the Fed saying something friendly, with retail sales moderate and inflation restrained, we should be able to hold today's levels," Moran said.
Ten-year notes yielded 4.21 percent in afternoon trade on Friday while two-year notes yielded 1.85 percent.
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