The keen among you have likely noticed the disparity between recent declines in US yields and very robust GDP tracking for Q2.
It’s early yet, but the Atlanta Fed’s GDPNow tracker stood at 4.2% as of the latest update. And yet, benchmark US bond yields are ~20bps off the YTD highs achieved late last month.
The simplest explanation is that what matters for rates isn’t any “nowcast,” but rather visible softening in the labor market (e.g., undershoots on NFP and AHE), contraction-territory ISM headlines and Jerome Powell’s reluctance to countenance the idea of a return to rate hikes.
A more nuanced explanation says markets are beginning to control for the influx of immigrants.
“As the role of rising labor supply has been better understood, it is notable that with the recent strong start of GDPNow for 2Q24, at nearly 4%, Treasury yields have not shown the same level of sensitivity to higher growth,” Morgan Stanley’s Matthew Hornbach remarked. “Powell’s message of a bigger-but-not-tighter economy has been absorbed by markets.”
The figures above give you a sense of things. In 2023, yields moved with the nowcast (on the left). Not so much recently (on the right).
Hornbach suggested controlling for population growth by de-emphasizing aggregate GDP in favor of a population-adjusted proxy: PCE per capita.
“Viewed from this lens, while aggregate GDP growth does look solid, GDP per capita growth has not been nearly as remarkable,” he said.
The figure on the left shows that aggregate GDP growth is indeed overshooting (or at least running near the top-end of the range) on a decade lookback. But the figure on the right suggests that when you control for higher immigration, GDP per capita growth “in fact lagged the pre-pandemic trend” last year, as Hornbach put it.
Where does that leave us in terms of rates? That is: If aggregate growth doesn’t matter as much for yields, what’s the most important factor? Well, inflation of course.
“Of the nearly 80bps rise in Treasury yields YTD, almost 100% has happened in the +/-3 days around the CPI releases,” Hornbach noted.
