Citi's Economic Surprise Index Is Now At Nosebleed Levels

Citi's economic surprise index, which measures the actual outcome of economic data releases relative to consensus estimates, is at its highest level in nearly two years after a streak of stronger-than-expected data in the last few months has sent it on a tear.

Now, the index is at levels often associated with a rolling over of this measure, as Chart 1 shows.

If the index does roll over soon - as economists' expectations outpace actual further improvements in the data - it could provide support for U.S. Treasuries, which have been selling off since October, when Citi's surprise index turned upward.

It would also bring to a halt a big theme in interest rate markets that has played out in the wake of the Federal Open Market Committee's December 18 announcement that the Federal Reserve will begin tapering down its quantitative easing program.

Short-term interest rates have been rising as traders test the FOMC's commitment to keep its policy rate pinned between 0 and 0.25%, where it has been since the financial crisis. The idea is that continued improvement in the economic data of the sort we've seen since October will cause the FOMC to renege, normalizing its policy rate sooner than it currently says it will.

"Since they've only started to taper, the idea of repricing the first hike does seem rather premature, but the logic does include the data itself," says David Ader, head of government bond strategy at CRT Capital.

"So when we hear people say things like, 'If the data strengthens…' we can only respond with, 'Indeed!' The issue is: what if the data just continues with the current sort of strength?"

If that's the case, the big sell-off we've seen in interest rate markets may subside.