Claims Strong = Rates Down
Yesterday the 10-Year Treasury yield dropped 8 bps to close at 2.44%, down from 2.52% on Tuesday. In early May we put out a note entitled "Tapering = Rates Falling", in which we argued that the Fed's ongoing taper, facilitated by strong labor market data, was indirectly causing downward pressure on long-term rates. This was based on the idea that following the expiration of both QE1 and QE2 we saw 100+ bps declines in long-term rates. See our note for more detail.
With that in mind, today's initial jobless claims data is very strong, and the ongoing taper of QE3 should continue and, by extension, the ongoing decline in long-term rates should persist over the short/intermediate term. The y/y change in NSA initial claims came in at -15% and the 4-week rolling average is now lower by 10.4% y/y vs the prior week being lower by 5.3%. It's fair to say that this is some of the strongest labor market data we've seen in a while, and it bodes well for next Friday's May labor market report. It's also interesting in the context of the negatively revised 1Q GDP print.
To reiterate our conclusion from our early May note, falling rates means more tough sledding for Financials positively correlated to long-term rates such as banks (R = +0.62), Life Insurers (R = +0.75) and Online Brokers (R = 0.67). Conversely, negatively correlated Financials include the agency mortgage REITs like NLY, MFA (R = -0.90) and select bond fund managers (i.e. AB, where R = -0.45). Squaring these values will tell you the magnitude of the headwind you're fighting being long. Yield plays also do well amid falling rates so our recent Best Idea addition, OZM, should fare well alongside our traditional fixed income asset manager idea LM.
The table below is from our May 6 note and shows the correlations of various Financial stocks to the 10-Year Treasury yield over the past year.
Prior to revision, initial jobless claims fell 26k to 300k from 326k WoW, as the prior week's number was revised up by 1k to 327k.
The headline (unrevised) number shows claims were lower by 27k WoW. Meanwhile, the 4-week rolling average of seasonally-adjusted claims fell -11k WoW to 311.5k.
The 4-week rolling average of NSA claims, which we consider a more accurate representation of the underlying labor market trend, was -10.4% lower YoY, which is a sequential improvement versus the previous week's YoY change of -5.3%
The 2-10 spread fell -10 basis points WoW to 208 bps. 2Q14TD, the 2-10 spread is averaging 224 bps, which is lower by -15 bps relative to 1Q14.
Joshua Steiner, CFA
Jonathan Casteleyn, CFA, CMT