Monthly Economic Update May 2016
In relation to dramatic moves earlier in the year, investment markets were generally tame in May. Domestic stocks rose by low single digits and bonds were basically flat. International markets were off modestly, largely due to strength in the dollar.
As typical, investors were hypersensitive to Federal Reserve communications during the month. The most important of these was the mid-May release of the Fed’s April meeting minutes. The somewhat hawkish stance of said release resulted in an upwardly revised probability of a Fed interest rate hike on June 15 – from essentially zero to just over 30%. And odds for a hike by the July meeting now exceed 50%. In response, the dollar strengthened, commodities and international investments were challenged, and an already flat yield curve flattened further. Aside from Britain’s potentially disruptive June 23 vote on membership in the European Union, which could give the Fed pause, many signs do suggest a tighter U.S. monetary stance is in order. Housing and auto sales remain strong, wages are on the rise, industrial production and durable goods orders have improved, and consumers recently dialed back savings in favor of consumption. Inflation is also on the rise. April posted the strongest month on month gain in inflation in over three years as the disinflationary pulses of a strong dollar and weaker energy prices have begun to fade. Moreover, lethargic U.S. worker productivity against a backdrop of a tightening labor market could lead to greater inflationary pressures than markets presently expect. June, July, or September, it does appear reasonable to expect a Fed rate hike in coming months.
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