Terror that Europe will feel for a long time to come

The savage attacks in Paris Friday night by ISIS clearly escalate the terror that Europe will feel for a long time to come. Will the attacks have a major impact on the EU economy, will the US actually respond with a major effort? Two questions that presently are being debated around the world. That the attacks happened on Friday evening has kept markets generally settled; had those attacks happened during the week we would have momentary chaos in markets. This morning the markets began relatively calm, here and in Europe; stocks starting quietly, the bond and mortgage markets also stable.

The NY Fed Empire State manufacturing index was expected at -5 frm -11.4 in October, the index collapsed to -10.74. Manufacturing in NY isn’t a major industry but the report continues to show US manufacturing is in deepening trouble. Orders component at -18.18 the lowest of the year, the work week down to -14.55 the fifth time it has been declining and the worst reading since June 2013. The employment component -7.27 he weakest since Nov 2009.

Right out of the gate this morning the financial media has leaped in with the question; will the terrorist attacks in Paris keep the Fed from increasing interest rates that is widely expected? Until Friday evening the only potential impediment to a rate increase was the Nov employment report due on Dec 4th. Now another layer to consider; if the US were to add more troops in Syria or in any way become deeply involved the Fed would likely pass on an increase. A huge unknown presently, and the US has not shown much interest in escalating our involvement, just a smattering of commitments.

The bond and mortgage market a little better this morning; as we noted last week we expect some improvements in the rate markets, mostly from a technical perspective; our models implied the rate markets very oversold when viewed form a near term perspective. Since last Monday the 10 yr note yield hit a high at 2.33%, this morning in early activity at 2.25% -2 bps frm Friday’s close. MBS prices since last Monday haven’t gained much; recent selling in the bond market was primarily in treasuries, a rebound won’t be as significant as in treasuries.

Global markets are taking the Paris attacks seriously, increasing a number of questions that are not going to answered or understood for weeks. Traders and investors however are not panicking as we might have expected. The attacks were not even on the table of concern, governments believing ISIS didn’t have the capability to move out of the Mid-East in its reach. A new development now showing ISIS has a much farther reach than anyone believed. One attack though, isn’t a trend, and hopefully it won’t escalate further. Europe’s economy is weak, even Germany’s economy slipping. More attacks would bring additional slowing to the economies. How will the Fed respond now? We don’t believe the Fed will be too concerned and change its plans unless there is another attack soon.