Fed’s Powell signaled tapering of bond buys this year. Chair Powell implied that the central bank could begin tapering the pace of its bond purchases before the end of this year. While the Fed has observed further healing in the jobs market in recent months (one of its priorities), he cautioned that the Delta variant is a wild card. The Fed chair reiterated that he remains confident that current inflation is truly “transitory” and that historical efforts to offset temporary inflation fluctuations may have done more harm than good. (Are you new to the taper conversation? Get up to speed HERE and HERE.)

Our take: In our minds, Chair Powell’s comments all but confirmed our expected timing of a taper: The Fed will outline a plan for tapering at its November policy meeting, and will begin tapering actions in December, at a snail’s pace, assuming economic momentum and inflation readings cooperate. In the meantime, the Fed will drop more hints at its September 20^th policy meeting.

Powell’s comments last week – watched by financial markets globally because the timing, pace and degree of tapering will impact the value of most financial assets – took stock of the economy’s rapid progress and solid outlook and laid out reasons not to overreact to current high inflation readings. It’s all part of the Fed’s careful process of mitigating financial market surprises, which matters far more than the precise details of its tapering plans.

Looking ahead, given Powell’s re-confirmation of the Fed’s “transitory” view of inflation, it’s focus going forward will be job creation. It seems that the Fed is taking a glass half-empty view on the jobs market; citing that employment is still about roughly six million jobs below its pre-pandemic level, with most of the shortfall residing in the depressed service sector of the economy. In addition, while wages are rising, the gains aren’t swift enough to spark a worry of broad inflation. In that vein, monthly jobs data through the end of the year will be front and center in guessing the Fed’s plans for the future.

As for interest rate hikes, the Fed Chair went out of his way to divorce tapering from rate hikes in the minds of markets. As such, don’t read into the tapering discussion that the Fed is on board with hiking rates anytime soon. After everything we heard last week, we maintain our view that the first hike will happen in 2023. If all occurs as we expect through year-end, we anticipate that the yield curve will steepen; short-term interest rates will remain anchored near zero, and long-term rates – like the 10-year Treasury yield – will drift higher, wrapping the year somewhere near 1.50%, since the Fed’s tapering activity will be broadly viewed as an indication that the economy is firmly on the road to full recovery.

America’s service sector slowed in August, confirming the bumpy road ahead toward economic recovery. Activity in the giant services sector, which alone accounts for about 70% of America’s total economic output, slowed sharply in August. The Purchasing Manager’s Index (“PMI”) slipped to 55.2 from 59.9 in July. The combination of the Delta variant’s spread and ongoing supply chain woes weighed on activity.

Why it’s important: The PMI data, coupled with  reports from recent weeks which showed a slowing of consumer spending, imply that 1) America’s economic growth over the current and coming quarters will be slower than most expect, and 2) many will soon need to tone down their rosy forecasts of the speed of the economic recovery. The dynamic plays perfectly into the Fed’s recent communications about tapering and rate hikes: while the overall economic picture is indeed improving, a speedy reversal of the Fed’s stimulus measures would be a mistake. In the meantime, effects of the Delta variant are just beginning to be seen in the data and could yield some negative surprises. It’s a recipe for long-term interest rates to stay low for the foreseeable future.

Fed’s preferred inflation measure eased in July. According to a US Commerce Department report, the US core personal consumption expenditures price index rose 0.3% in July, down from June’s 0.5% pace. The inflation gauge rose 3.6% year over year, the highest reading in about 30 years, but at the same annual pace as in June. The report also stated that personal income rose a robust 1.1% last month, well above expectations of a 0.2% advance.

Biden held firm on Afghan withdrawal date. President Biden told G7 allies that the US will stick to its self-imposed August 31^st withdrawal date from Afghanistan even if that means leaving behind US citizens and Afghan holders of special visas.  Left dismayed, most other G7 partners pushed the White House to extend the deadline but began wrapping up their evacuation efforts after Biden stood his ground. The already chaotic situation in Kabul, Afghanistan’s capital, deteriorated further last Thursday when a terrorist attack mounted by Taliban rival ISIS-K near an entrance to the city’s airport killed scores, including 13 US troops.

Our take: While it’s a fluid and unpredictable situation, long-term interest rates could fall temporarily should the Afghanistan situation deteriorate rapidly, as investors seek the safety of US Treasury bonds amid the chaos. We experienced a whiff of it last Thursday, as rate cap pricing spiked higher and swap rates moved lower suddenly as news of the bombing rippled across the newswires.

US home sales rose in July. Sales of existing homes in the United States rose 2% in July compared with the prior month, while new home sales rose 1%. Realtors noted that inventories of unsold homes have begun to rise, a shift from earlier in the pandemic when inventories were tight. The median sales price of an existing home stands at $359,900, 17.8% above July 2020 levels.