Provisional figures just out show that the US economy grew at an annualised rate of 1.3% in Q1, the slowest pace in four years, as construction fell at an annual rate of 17%. Q1 GDP was way below expectations, which had been for an annualised growth rate of 1.8%.
At the same time it was announced that the Federal Reserve’s preferred measure of inflation rose at an annual rate of 2.2%, up from 1.8% in Q4 2006. Ben Bernanke had previously said that inflation should ideally sit between 1% and 2%.
The effects of lower than expected growth coupled with higher than expected inflation meant that US Treasury yields have not moved much at the time of writing, since the effects of higher inflation do not make it any more likely that US interest rates will be cut (US markets are pricing in one rate cut by the end of 2007). Gilt yields have risen however, with the 5 year gilt yield now standing at 5.34%, the highest since March 2002.
Equity markets have fallen on the news, with the FTSE 100 dropping around 30 points. Corporate bonds have unsurprisingly weakened – the iTraxx Crossover Index has widened out about 6 basis points. The data from the US is bad news for credit risk and at least in terms of the UK bond market it is bad news for duration. My funds continue to be positioned short duration and with a focus on highly rated corporate bonds.