Thursday, October 30th, 2008 Market Update

Thursday: 10/30/08 10:30 AM EDT:
Market Update on Interest Rates

The economic data released today was not as bad as feared. This and the bullish implications of yesterday's Fed rate cut have spurred a rally in the stock market this morning. The rise has diminished the allure of Treasuries and they are currently sharply lower. Positioning for more supply is also weighing against bonds.

It should be noted, however, that the markets have been highly volatile in the past several weeks and additional, abrupt price swings would not be too surprising.

In today's major economic release, the Commerce Department reported that, according to its initial calculations, gross domestic product (GDP) declined at a 0.3% annualized rate in the third quarter. This was the first decline since the fourth quarter of last year and the largest decline since the third quarter of 2001. GDP grew by 2.8% in the second quarter.

GDP is the market value of all final goods and services produced by labor or property in the country in a year?s time. Quarterly data is adjusted and annualized and changes from quarter to quarter indicate the strength and direction of the economy. Today's report was based on incomplete data and a revised, preliminary report will be released next month. A final report will be released in December.

Today's report indicated that consumer spending declined by 3.1% last quarter, the steepest contraction since the second quarter of 1980. The category represented a 2.25% subtraction from the GDP calculation.

A negative inflation indicator in the report was a 4.2% increase in the price index. This was the largest rise since the first quarter of 1991. The price index for core personal consumption expenditures (consumer spending minus food and energy) rose by 2.8% in the third quarter, the biggest increase since the second quarter of 2006.

But not all of the news was bad. Most analysts were actually anticipating a decline in GDP of between 0.5% and 1.0%. Net exports were a strong point, adding 1.13% to the GDP calculation. A somewhat more equivocally positive contribution came from a 5.8% expansion in government spending. This was the largest increase since the fourth quarter of 2001 and it represented a 1.15% addition to the GDP calculation.

In the other news release of the day, the Labor Department reported that the seasonally adjusted level of initial claims for state unemployment benefits was unchanged last week at 479,000. The lull comes following large swings that saw the level increase by 16,000 in the week ending October 18 following two weeks of declines totaling 36,000 following three weeks of increases totaling 54,000. The four-week moving average, which smoothes out some of the short-term volatility, declined by 5,000 to 475,500.

The claims level remains elevated. Any reading over 400,000 suggests that layoffs are outpacing hiring. Despite the tame readings in the last two weeks, the trend has been up. For the first forty-three weeks of the year so far, the average claims reading has been 395,814. For the same period last year, the average was 317,512.

The report said that continuing claims fell by 12,000 to 3.715 million in the week ending October 18 (continuing claims must be at least a week old). The decline was the first in six weeks. The four-week average rose by 28,000 to 3,709,500, the highest reading since May of 2003. For the first forty-two weeks of the year so far, the average continuing claims reading has been 3,134,167. For the same period last year, the average was 2,529,476.

More supply comes to market today as the Treasury will be conducting its monthly auction of 5-Year Notes. Last month's issue met with modest demand but, once again, the offer amount was exceptionally high. The face value was $24 billion, the highest since February of 2003. Bids exceeded the offer amount by 1.91 to 1, the lowest bid-to-cover ratio in four months. The average for the twelve auctions preceding September's was 2.26.

Noncompetitive bids, a gauge of individual investor demand, totaled about $105 million. Though this was above the twelve-auction average of $93 million, it was down from August's $124 million and as a percentage of the offer amount was the smallest of the last five auctions.
Foreign demand was so-so. Indirect competitive bids received 26.6% of the issue, down from August's award portion of 29.6% but in line with the twelve-auction average of 26.7%.
Today's offering also has a face value of $24 billion.