We highlight two data points late last week signaling that the underlying momentum of the economic recovery remains firm despite the recent market turbulence catalyzed by the steepening of the US Treasury yield curve.
First, the positive surprise in US non-farm payrolls numbers for March which came in at 916k, significantly higher versus the median estimate of 660k in a Bloomberg survey of economists, with the employment figure for February revised upwards to 468k as well. The US unemployment rate also fell to 6% as the workforce participation rate edged up.
Second, we also saw a surprisingly strong reading in the ISM Manufacturing PMI which came in at 64.7 for March, also beating consensus expectations for a 61.7 figure and continuing its uptrend from 60.8 in February.
To recap, a PMI reading above 50 signals expansion, and the datapoint for March 2021 was the highest reading seen since 1983. All five sub-indices that form the headline index indicates that the economic momentum in the US continues to build, although some companies are reporting limited availability of parts and materials due to supply chain disruptions and low inventory levels which could exacerbate the inflation scare in mid 2021.
While the US equity markets were closed on Friday due to the Good Friday holiday, futures are pointing to a positive open with the S&P500 index closing above 4,000 for the first time last week.
Over the past few weeks, we have reiterated our view that the episode of market turbulence triggered by the rise in US Treasury yields due to reflationary expectations is a rite of passage commonly seen after recessions, and is unlikely to derail the long-term economic recovery and the post-pandemic bull market.
While there is still some scope for Treasury yields to gradually rise over a 12-month horizon given our 12-month forecast for the 10-year Treasury yield is 1.90%, the likelihood of a very large and swift upward move beyond 2% over the near term seems limited.
Given the recent move up in yields, current market expectations in terms of the pace of Fed rate liftoff are aggressive, and significantly diverges from the Fed’s and our base case expectations. While current expectations are aggressive but plausible, a further shift to an earlier liftoff trajectory could be overdone, in our view. Because of this dynamic, should bond yields continue to rise over the near term, the move is likely to be self-limiting, barring a severe deterioration in inflation conditions.
Last week, the White House also released its highly anticipated infrastructure plan – The American Jobs Plan (AJP) – which represents USD2.3 trillion to be spent mostly over eight years.
To fund the AJP, the White House proposes to increase the corporate income tax rate from 21% to 28%, institute a 21% minimum tax on profits earned by foreign subsidiaries of US firms, and impose a 15% minimum tax on global book income.
President Biden’s announcement is only the first step of a complicated and volatile legislative process and passing the AJP will likely be less straightforward than the USD1.9 trillion American Rescue Plan (ARP) that was passed last month.
Ultimately, we believe it is possible that the Democratic Party could pass an infrastructure bill using the FY2022 budget reconciliation process before the August recess which would circumvent the 60-vote legislative filibuster in the Senate as was done for the ARP (which used the FY2021 reconciliation leftover from the 116th Congress).
In term of investment implications, the AJP will further catalyze key structural trends and investment opportunities in cyclical sectors and companies related to areas such as broadband, grid modernization and clean energy and storage, and electric and autonomous transportation.
