Why did Tuesday's key releases drive financial markets higher?

Why did Tuesday's key releases drive financial markets higher? (Part 1 of 7)

Why did Tuesday’s key releases drive financial markets higher?

Both stock and bond markets rose on Tuesday

On Tuesday, May 27, a spate of data releases gave positive signals on the direction the economy was headed in. However, contrary to theory, both stock and bond markets moved up, suggesting that both were following tunes played by different pipers. The S&P 500 Index (SPY) touched a new record of 1,911.91, rising 0.6%. Analysts attributed this to better-than-expected factory orders, which spiked 0.8% month-over-month, suggesting that the manufacturing sector was likely to make a tidy contribution to second quarter GDP growth.

Treasury yields decreased, with ten-year U.S. Treasury yields (IEF) declining by 2 basis points to 2.52%, reaching levels we last saw in October 2013. The iShares 7–10 Year Treasury Bond ETF (IEF) rose 0.03% to $103.62 on May 27.

Part 1Enlarge Graph

The bond market writes its own script

The taper of bond purchases, increasing economic growth, and the prospect of monetary tightening should increase Treasury yields and lower prices, right? Well, demand for the $31 billion auctioned two-year U.S. Treasury notes rose sharply this week. The bid-to-cover ratio came in at 3.52—the second highest level this year. Two-year Treasury yields have fallen five basis points since the start of 2014 due to dovish statements made by various Fed officials that an increase in the Fed funds rate isn’t imminent. To find out about San Francisco Fed president John Williams’ speech on monetary tightening, please read the Market Realist series Why John Williams says monetary tightening won’t happen right away.

U.S. Treasury securities have been in high demand this year due to investor preference for safe-haven assets in the face of geopolitical tensions. Long-term investors—like pension funds—have also continued buying U.S. Treasuries, as they need to match their long-term liabilities with assets that have a similar duration in order to minimize interest rate risk.

The yields for 30-year U.S. Treasuries (TLT) have fallen by 55 basis points since the start of the year to 3.37% (as of May 27), making longer-term Treasuries one of the better-performing asset classes this year. The iShares 20+ Year Treasury Bond ETF (TLT) has clocked a year-to-date return (as of May 16) of 9.89%, confounding bond skeptics.

Why are this week’s economic releases important for investors?

In this series, we’ll cover the economic data releases issued on Tuesday and their impact on stock and fixed income (JNK) ETFs. These releases include the following.

  • Durable goods orders
  • Manufacturing (XLI) survey reports issued by the Federal Reserve Banks of Richmond and Texas
  • Home price indices (XHB), namely the Federal Housing Finance Agency Housing Price Index and the S&P Case-Shiller Home Price Index
  • The Conference Board’s Consumer Confidence Index

The U.S. Census Bureau is also due to release the second estimate for first quarter GDP on Thursday, May 29. U.S. GDP grew at just 0.1% quarter-over-quarter as per the advance growth estimate released last month. Severe weather conditions had impacted almost all sectors of the economy in Q1 2014, which led to low GDP growth. Investors will eagerly watch to see whether the critical GDP components, consumption and manufacturing, will gain enough traction in the second quarter to make up for the sub-par performance in Q1.

To see how factory orders spurred the S&P 500 Index to a record high, please read on to Part 2 of this series.

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