BONDS
Yields dipped early in the week as stock prices tumbled. Economic news took second billing to geopolitical events, i.e. continued terrorist attacks in Israel. As the week progressed, stock prices rallied and this led to some deterioration in bond prices (higher yields). By Friday, Treasury investors were primarily concerned with stronger March consumer sentiment figures and mortgage origination selling which further pushed up Treasury yields. The 10-year note yield ended the session at its highest level since March 5 when it stood at 3.84 percent. The 2-year note yield ended at its highest level since March 4 when it stood at 1.70 percent. The rise in the 10-year note yield should boost mortgage rates next week.

Markets at a Glance

Weekly percent change column reflects percent changes for all components except interest rates. Interest rate changes are reflected in simple differences.

The Economy

Durable goods orders jump in February
Durable goods jumped 2.5 percent in February, almost reversing January's 2.7 percent drop. An 11.6 percent hike in defense capital goods orders and a 2.9 percent hike in nondefense capital goods orders boosted February's figures. Both managed to reverse the January declines. Among the various industry sectors, primary metals, machinery, computers & electronics, and transportation orders increased during the month. Fabricated metals and electrical equipment orders decreased in February.

The year does not appear to be off with a resounding start. On average, the two months are showing a 0.1 percent monthly drop. This is in contrast to strong orders data in the ISM manufacturing survey in January and February. Based on the ISM series, we should see some improvement in coming months. And the picture is not all bad. New durable orders are clearly rising on a year-over-year basis. Furthermore, unfilled orders are also posted yearly gains. Increases in unfilled orders bode well for industrial production as these are a backlog of work yet to be completed.

Signs of improvement in the labor market'
There is no question that improvement is meager but the Conference Board's help wanted index inched up to 40 in February, up from the fourth quarter average. The index appeared to be bumping along the bottom for a long while and seemed to hit its trough in May 2003 at an index level of 35. The February level is not much above it but we'll take any improvement! At the same time, new jobless claims appear to be dipping lower as well. The average for the first three weeks of March shows that claims have decreased to 340,000 per week, down from 353,000 in February and even below January's previous low of 346,000. If the March average holds, this would be the lowest monthly average for new jobless claims since November 2000.

Incidentally, these tiny improvements in claims and the help wanted index are not sufficient to motivate Fed officials to change monetary policy. However, they are a step in the right direction for sustainable gains in consumer spending.

Income outpaces spending growth
Personal income grew 0.4 percent in February after a 0.3 percent hike in the previous month. After adjusting for tax payments, disposable income also increased 0.4 percent in February after a healthy 0.9 percent gain in January. For two straight months, income grew faster than spending. Personal consumption expenditures increased 0.2 percent in February after a 0.5 percent gain in the month before. This brought the personal savings rate back to 1.9 percent, the highest level since October. Savings hit a low in December when a sharp rise in durable goods (mostly motor vehicles) helped to boost spending and depress the savings rate.

While most economists agree that consumer sentiment doesn't predict monthly retail sales patterns, many equity investors, and some in the bond market too, like to follow the consumer attitude surveys to get a sense of consumer thinking. The University of Michigan's consumer sentiment index edged up to 95.8 in March after dropping like a rock in February to 94.4. The final March figures were better than expected and an improvement over the mid-month reading which had shown a drop in the sentiment index relative to February. The final March estimate was at least encouraging that consumers are not becoming more pessimistic about the economy. We've said it before, and we'll say it again: consumers will become more optimistic when the labor market improves!

Home sales rise in February
Single-family home sales rose 2.6 percent in February, offsetting only half of January's 5.1 percent drop. New home sales rose 5.8 percent but existing home sales gained a more moderate 2 percent for the month. Since existing home sales are five times as large, they tend to overshadow changes in new home sales.

Mortgage rates continue their downward trend, falling 10 basis points in February and an additional 20 basis points in March to an average 5.44 percent rate on 30-year fixed rate loans. It is questionable whether or not we will see the same burst in home sales in the next few months that we saw between April and September 2003, but mortgage rates are certainly approaching the lows last seen in June.

Q4 GDP is old news, but corporate profits are new!
To no one's surprise, the Bureau of Economic Analysis left unchanged its previous estimate that real GDP grew at a 4.1 percent rate in the fourth quarter. Fourth quarter corporate profits, however, were released for the first time. After tax profits were up more than 20 percent from a year earlier, continuing the strong year-over-year trend of previous quarters. The chart below shows how yearly profits often move in tandem with yearly gains in the Dow Jones industrials, with a slight lag. The recent moderation in stock price growth in first quarter may suggest that corporate profits are leveling off as well.

The Bottom Line
Economic news was mostly favorable this past week as durable goods orders recovered most of the previous month's loss, new home sales increased and labor market indicators showed slight improvement. Unfortunately, the week was not about economic indicators but fears of terrorist attacks. Consequently, stock prices tumbled.

Next week offers a fresh look at the employment situation for March. Economists are optimistic that payroll growth improved in March. The ISM manufacturing index will give us another look at the manufacturing sector while motor vehicle sales will reveal an early peek at March retail sales.

Looking Ahead: Week of March 29 to April 2

Tuesday
The Conference Board's consumer confidence index dropped 9.1 percentage points in February after increasing 4.7 percentage points in January. No doubt, consumers are primarily concerned about the anemic labor market and will become more optimistic as job prospects improve.

Consumer confidence index Consensus Forecast for Mar 04: 85.5
Range: 82.5 to 89

Wednesday
The business barometer from the NAPM-Chicago edged down to 63.6 in February from January's level of 65.9. Readings above 60 percent are quite healthy, so the monthly drop should not be viewed in a negative light as it suggests that business activity was percolating nicely in the Chicago region.

NAPM-Chicago Consensus Forecast for Mar 04: 61
Range: 58 to 67.7

Factory orders decreased 0.5 percent in January after recording a healthy 1.8 percent rise in December. A plunge in defense orders depressed total orders for the month. In February, advance durable goods orders rose 2.5 percent, spurred by an 11.6 percent jump in defense capital goods orders along with a 2.9 percent gain in nondefense capital goods orders. This should help boost total factory orders in February

Factory orders Consensus Forecast for Feb 04: 1.7 percent
Range: 1 to 3.1 percent

Thursday
New jobless claims fell 1,000 in the week ended March 20 to 339,000, the first rise after three declines. Nonetheless, this lowered the 4-week moving average to 341,500, the fourth straight weekly decline. Claims will be down in March from the February average, but new jobless claims will need to continue their downward trend so that employment gains could follow.

Jobless Claims Consensus Forecast for 3/20/04: 340,000 (1,000)
Range: 335,000 to 350,000

The ISM manufacturing index decreased about 2 points in February to 61.4 percent. Despite the drop, it was the fourth straight month in which the index showed a reading above 60 percent. This reflects healthy manufacturing growth - particularly since new orders, production and supplier deliveries also had readings above the 60 percent mark. Even the employment component has posted readings above the 50 percent mark for four straight months.

ISM manufacturing index Consensus Forecast for Mar 04: 59.5
Range: 57 to 62.7

Construction spending inched down 0.3 percent in January as residential construction expenditures were unchanged. These have helped boost construction for the past six months. A moderation in housing starts in the past couple of months could mean more slowdown in this sector.

Construction spending Consensus Forecast for Feb 04: 0.0 percent
Range: -0.8 to 0.7 percent

Motor vehicles were sold at a 13.1 million unit rate in February, matching the January pace. Domestic cars were sold at a 5.4 million unit rate while light trucks were sold at a 7.8 million unit rate. (Total sales may not match the sum of light trucks and cars due to rounding.) Overall sales have moderated from the strong pace registered in the fourth quarter of 2003.

Light truck sales Consensus Forecast for Feb 04: 7.9 million unit rate
Range: 7.7 to 8.0 million unit rate

Auto sales Consensus Forecast for Feb 04: 5.4 million unit rate
Range: 5.4 to 5.5 million unit rate

Friday
The civilian unemployment rate remained unchanged at 5.6 percent in February, down 0.3 percentage points from the fourth quarter average. The jobless rate's drop has mostly stemmed from a declining labor force rather than growing employment. Nonfarm payrolls inched up 21,000 in February, slower than January's 97,000 gain but nevertheless the sixth straight increase, albeit meager in almost every month.

The average workweek does seem to have kicked up a notch, averaging 33.8 hours in the first two months of 2004 compared with a 33.7 average for the fourth quarter of last year. Employers tend to increase the number of hours worked before they hire new workers.

Unemployment rate Consensus Forecast for Mar 04: 5.6 percent
Range: 5.5 to 5.7 percent

Nonfarm payrolls Consensus Forecast for Mar 04: 120,000
Range: 50,000 to 200,000

Average workweek Consensus Forecast for Mar 04: 33.8
Range: 33.8 to 33.9