August analysis: A two-tier economy
I hope you're doing well as the weather begins its long cooling-off period!
Before getting into the economic wrap-up, I wanted to provide a high-level explanation of a financial concept that has been in the news a lot lately: “bond yields.” While the name alone may cause a collective yawn, bond yields are something that financial and political professionals are always watching.
“Bond” simply means company or government debt, while “yield” is another way of referring to the return paid to those who lend the money. When you buy a newly issued bond, you are directly lending money to a company or government. There is also a secondary market for bonds, where investors can sell bonds they previously purchased, but for now, let’s not complicate things.
A bond’s yield can rise or fall based on what investors believe the risk of holding that bond to be. If investors believe there is a higher risk of default, they want to be paid more. If the risk seems minimal, they will accept a lower yield.
This is similar to when a bank gives out a loan: the better your credit score, the lower the interest rate the bank is likely to charge you. Similarly, if your credit score is low, the bank will want you to pay more for taking on the additional risk.
So why is this in the news? It’s complicated, but one factor is the $40 trillion in U.S. government debt, a threshold that was only just crossed in August. Investors become concerned when the government is paying out significantly more than it is bringing in, which means they may want to be paid more to hold the government’s debt. And when U.S. government bonds have to pay a higher yield, interest rates can rise across the economy.
Does this mean there’s a recession in our midst? Simply put, no, it does not necessarily mean that. Company profits are still up, and there was an unexpectedly strong August jobs report. One thing is for certain: We are living in exceptional times.
And now for the curated and edited Levitate newsletter:
August saw inflation hold above the Federal Reserve’s target, bond yields stay elevated, and oil swing sharply on geopolitical tensions. Retail and housing trends, meanwhile, pointed to a slowing economy and a wary consumer, but the economy added 162,000 jobs.
The economy wasn’t faltering, just running at two speeds, as demonstrated by strong performance from the services sector, which was offset by a marked pullback in the manufacturing sector. That divide, layered on top of a hire, low-fire labor environment and persistent inflation, complicates the outlook for both growth and Fed policy.
Against that backdrop, here’s where the benchmarks landed:
Major U.S. Stock Indexes
U.S. stocks hovered near record highs in August, led by technology and AI-related names even as underlying economic data painted a conflicting picture. Nvidia's blowout earnings late in the month eased concerns that AI spending had peaked.
What Drove the Numbers
Labor market downshifts, but doesn’t stall. July hiring fell well short of expectations, and prior months were revised lower still, a further sign of the labor market’s weakness. Yet the unemployment rate actually ticked down to 4.1%, partly because fewer people were out looking for work, while layoffs stayed rare, followed by the strong August numbers.
Consumers turn more selective. Retail sales data released in August showed a 0.6% dip in July, the sharpest monthly drop in over a year. Major retailers including Walmart and Home Depot described shoppers as increasingly cautious. For investors, employment trends, real wage growth, and holiday-season sales guidance are now the key gauges of consumer health to watch.
Housing stays the weak link. Elevated mortgage rates kept weighing on the housing market through August, with new construction and sales sliding to some of their softest levels in years and prices continuing to drift lower. A modest uptick in building permits offered a rare bright spot, but rates stayed high enough to restrain broader activity. Of all the major sectors, housing most clearly shows how today’s rate environment is shaping everyday financial decisions.
Inflation keeps policymakers on edge. The Fed’s preferred inflation gauge showed little improvement, keeping a rate hike on the table even as the labor market slows and the war with Iran continues to factor heavily into the inflation conversation. Several officials already favored raising rates, and Fed Chair Kevin Warsh’s late-month remarks made clear that inflation, not growth, remains the priority. Markets took the hint, nudging up the odds of a September move.
What to Watch
September’s jobs and inflation data should show how the economy has continued to develop as the third quarter starts to wrap up. The bigger risk of contraction may be borrowing costs, which could squeeze housing and pressure growth-stock valuations.
AI bellwether Nvidia confirmed that infrastructure spending remains robust, but the real test ahead is whether those earnings and cash-flow benefits broaden to software, industrials, utilities, networking, and power infrastructure, or stay concentrated in a handful of names.
As always, if any of this raises questions, I’m just a call or email away. Helping you make sense of it all is exactly what I’m here for.
All the best,
Tim
CVW Financial, LLC is a registered investment adviser. Information presented is for educational purposes only and does not intend to make an offer or solicitation for the sale or purchase of any specific securities, investments, or investment strategies. Investments involve risk and, unless otherwise stated, are not guaranteed. Be sure to first consult with a qualified financial adviser and/or tax professional before implementing any strategy discussed herein. Past performance is not indicative of future performance.
