Leveling the Playing Field August 25, 2014

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Been out two weeks and this is my first ever newsletter as a married man. Apparently a
move and a wedding result in as much time away from work as a Ray Rice assault
charge. But go ahead and turn everything pink in October to show the female fan base
how much you care, NFL. Perhaps he would have been suspended longer if she was a
wide receiver running across the middle

With too much to discuss over the last two weeks (and assuming we arent your sole
source for information), lets focus on last weeks Fed-speak.

Jackson Hole Friday

After learning theres no snow in Jackson Hole in August, Yellen disappointedly stored
her skis and settled in to the usual Q&A. She was as ambiguous as ever. I wonder how
she responded to her husbands proposal? Well, if we assume my long term utility
equilibrium will be achieved by maximizing happiness through an accommodative policy
of wining, dining, and travel which will be removed gradually at the appropriate time as
conditions warrant

- Labor market improvements are bringing us closer to max employment, but the
decline in the unemployment rate somewhat overstates improvement in overall
labor market conditions.
- Minimal wage pressure and real wages are growing slower than productivity.
More notably, Yellen does not view wage pressure as a leading indicator of
inflation.
- Significant slack remains in labor markets and measuring said slack is
challenging. She mentioned a few notable concerns:
o Participation rate
o Underemployment, namely part timers that want full time work, which
stands at 4.8% today. Here is the same measure at the start of the last two
tightening cycles.
1994: 3.75%
2004: 3.00%
o Structural change shift to more service-oriented jobs could suggest more
part time work is the new normal.
- Misreading this slack could lead to misstep with rate policy. Also, Yellen
believes the rapidly declining unemployment rate is understating the slack in the
market. This suggests she is willing to remain accommodative until the Fed is
sure it isnt jumping the gun. Publicly dovish and privately hawkish




FOMC Minutes Wednesday

If there is one take away from Wednesdays minutes, it is that the hawks are gaining
momentum. We may still be 9-12 months out from a hike, but it is definitely on the
horizon.

As you may recall from the actual FOMC statement a few weeks ago, Plosser was the
only dissent after some whispers that Fisher may dissent as well. It turns out several
members are uncomfortable with the forward guidance language, not just Fisher. But
with Plosser and Fisher rotating out of voting spots in 2015, they are using the second
half of 2014 to ring the rate hike bell as loudly as possible.

Plosser indicated late in the week that he is formally revise exit strategy within the next
two meetings and prefers to raise rates earlier than expected and at a gradual pace.
Lockhart reiterated his view that the Fed will begin hiking in mid-2015, while Bullard
added that a hike in Q1 2015 would be dependent on improvement in economic and labor
market conditions.

Im not the sharpest knife in the drawer, but there is an awful lot of Fed-chatter around a
2015 rate hike.

On a side note, the Fed is tweaking its approach to setting a targeted rate. Rather than
peg a specific rate, such as 0.25% or 0.75%, it will set a range 0.25% wide.

Conclusion the Fed is data dependent, just as it has been saying for some time. If labor
markets improve or inflation accelerates, the hike could come sooner. If hiring slows or
if the economy stalls, the hike will be delayed. Barring a dramatic change, we appear to
be on path for a rate hike sometime in the middle of 2015.

Outlook

With an increasingly hawkish Fed, improving economy, 200k+ jobs per month, inflation
at 2.00% - what in the world is going on with long term rates?

Global turmoil.

Germany just printed 2 year notes at 0.0%, so the flight to safety is on. Germanys 10
year bunds are 1.00% below US rates, so where would you put your money?

The front end is more vulnerable to upward pressure given all the Fed-speak about rate
hikes, while the long end has the potential to push lower due to global unrest. As the
summer winds down, thin trading could exacerbate rate movements. Corporations are
clearly concerned about a higher rate cycle we are nearing $1 trillion in bond issuance
for 2014, already up 4% over last year.



Economic Data
Day Time Report Forecast Previous
Monday 8:30AM Chicago Fed National Activity Index - 0.12
9:45AM Markit US Composite PMI - 60.6
9:45AM Markit US Services PMI - 60.8
10:00AM New Home Sales 425K 406K
10:00AM New Home Sales MoM 4.70% -8.10%
10:30AM Dallas Fed Manufacturing Activity - 12.7
Tuesday 8:30AM Durable Goods Orders 7.00% 0.70%
8:30AM Durables Ex. Transportation 0.50% 0.80%
9:00AM FHFA House Price Index 0.50% 0.40%
10:00AM Consumer Confidence Index 89.7 90.9
Wednesday 7:00AM MBA Mortgage Applications - 1.40%
Thursday 8:30AM GDP Annualized QoQ 3.90% 4.00%
8:30AM Initial Jobless Claims - 298K
8:30AM Personal Consumption - 2.50%
8:30AM Continuing Claims - 2500K
8:30AM GDP Price Index 2.00% 2.00%
8:30AM Core PCE QoQ - 2.00%
10:00AM Pending Home Sales MoM 0.30% -1.10%
10:00AM Pending Home Sales YoY - -4.50%
Friday 8:30AM Personal Income 0.30% 0.40%
8:30AM Personal Spending 0.10% 0.40%
8:30AM PCE Deflator MoM 0.10% 0.20%
8:30AM PCE Defaltor YoY - 1.60%
8:30AM PCE Core MoM 0.10% 0.10%
8:30AM PCE Core YoY - 1.50%
Speeches and Events
Day Time Report Place
None
Treasury Auctions

Day Time Report Size
Wednesday 1:00PM 5-Year Treasury Bill TBA
Thursday 1:00PM 7-Year Treasury Bill TBA




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