U.S. Fundamentals Strong, but Prudent Analysis Needed

Last week, the first reading on first quarter U.S. Gross Domestic Product (GDP) came in at a 3.2 percent growth rate, well over Bloomberg consensus estimates of 2.3 percent. This increase was seen by many as a positive sign.

However, it would be premature and incomplete to assume that this pace of GDP growth actually signals increased economic strength, or that it will continue for the rest of the year. Inventories – a component of GDP – rose during the quarter as producers rushed goods into their supply chain to beat any potential trade challenges. Additionally, imports were down in the first quarter resulting in a higher “net exports” contribution to GDP, which is a temporary factor. These two factors contributed 1.7 percent to GDP in the first quarter, which is 4 times higher than their typical contribution. Excluding government and the volatile trade and inventory component, numbers were modest. Final sales to private domestic purchases – a measure of underlying demand – cooled to a 1.3 percent pace, which was the slowest since 2013.

Regardless of the composition of the GDP number, the headlines showed faster growth and very modest inflation, which helped to push Treasury yields slightly lower even on the shorter maturity of the Treasury curve, which impacts public funds investing. The Treasury yield curve remains very flat, meaning that the increase in yield – the benefit received – as one invests in longer maturity securities is very small.

We believe that the economy still remains strong, but not necessarily as strong as the first quarter GDP number suggests. Consumer spending is still contributing positively, unemployment remains low, and inflation has not increased. As a result, the Federal Reserve is still “on pause” in their plan to raise interest rates in 2019.

While we believe continued positive results are likely in 2019, it is possible we could see more volatility. Ongoing challenges to the financial markets include tariffs, worldwide growth uncertainties, inflation, and continued uncertainty around Brexit.


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