Markets Largely Shrug Off Soft GDP Print Ahead of FOMC

US equities opened mixed while Treasury yields traded marginally higher despite a soft Q1 GDP report released today. The GDP report showed the world’s largest economy grew at its slowest pace in three years during Q1.  The headline number came in at 0.7%, down from a 2.1% pace in the prior quarter as weakness in consumer spending and inventories outweighed gains in business investment and housing.  Analysts were expecting an increase of 1.0%.  Market pundits were quick to point out that transitory factors such as unseasonably warm weather likely played a role in the slowdown.  Additionally, analysts have questioned the Commerce Department’s seasonal adjustment of the data, which historically has shown the first quarter underperform significantly compared to the rest of the year (average of 1% in Q1 vs. 2.2% in all other quarters since 2000).  All things considered, today’s report is unlikely to alter the Fed’s thinking at next week’s FOMC meeting, as Fed Chair Yellen has previously discounted quarterly GDP as “noisy”.

A separate report showed US labor costs experienced the largest gain since 2007 in Q1, suggesting wage growth may be picking up steam.  The Employment Cost Index rose 0.8%, beating analysts’ estimates of 0.6% after the 0.5% gain in the fourth quarter.  The year over year gain in ECI was the largest in two years, which indicates inflation may finally be picking up as the economy reaches full employment.  This data may be of more interest to Yellen and the Committee.  The market only ascribes a 15% chance to a Fed rate hike at next week’s meeting, and a 67% likelihood that the Fed will take rates up at the June 14 meeting.

On the political front, markets remain on edge over a possible military conflict with North Korea.  Speaking at a special session of the U.N. Security Council, Secretary of State Tillerson called for new economic sanctions on the hermit kingdom and other “painful” measures.  Tensions are extremely high in the region as North Korea conducted new artillery drills this week with range capability that could easily have reached Seoul, while the US sent warships into the region in a show of force.  There is still hope for a diplomatic resolution, but the US hasn’t had direct talks with North Korea since 2003.  Meanwhile, US policymakers are scrambling to pass a bill that would provide federal funding for another week in order to finalize legislation that would keep the government funded through its fiscal year end on September 30.
 
All three major US stock indexes trade close to unchanged from yesterday’s close, while Treasury yields and swap rates 1-2 bps higher across all major maturities.  Have a great weekend.