For the first time in quite some time, U.S. bond and equity markets showed increased volatility on the heels of President Trump’s firing of FBI Director Comey. In tandem with that, there was increased turbulence in the White House surrounding allegations of possible Trump-Russia collusion, though no hard evidence has surfaced as of yet. Investors seem less concerned with the potential conflicts with Syria and North Korea. There is a lack of certainty over the Trump administration’s ability to pass promised pro-growth tax reform. Trump’s unorthodox style came to a head on Wednesday, which saw a massive rally in bond yields and also a violent sell-off in stocks due to the aforementioned concerns. The markets traded better on Friday as this market has proven to have a short memory.
Overall, U.S. earnings were strong for the first quarter, and ultimately the stock market trades on earnings and earnings growth. The one question on everyone’s mind is how the stock market will react to the Trump administration’s actions on policies on tax cuts, deregulation, and infrastructure spending. The success or failure of tax reform will have big consequences later in the year with respect to interest rates.
With the 10-year Treasury note closing below 2.25%, we remain biased toward floating rates. We are closely watching support (2.16%) and resistance (2.61%) on the 10-year note. Breaking below or above these levels could mean much lower or much higher interest rates. For the moment, we are delighted for the positive week and better pricing for our borrowers with the drop in interest rates.
U.S. government bonds and mortgage rates have been strengthening since yesterday afternoon and throughout today as demand for safe haven assets increased. U.S. equities closed the week out with their worst trading week in about a month.
One reason for the rally in bond yields today was the soft reporting out of the Consumer Price Index (CPI), which is a closely watched inflation indicator and measure of what consumers pay for most finished goods. The CPI index was up 0.2% in April and in line with estimates. Core CPI, which strips out food and energy data, saw a just 0.1% gain in April, a touch below the 0.2% expected. The year-over-year CPI reading slipped to 1.9% from the plus 2% that has been the norm over the past 12 months. This low trajectory of consumer inflation is good news for bonds and as evidenced by the 10-year Treasury yield closing the week out at 2.32%.
On a separate note, first-time home buyers are on the increase. The Census Bureau shows that 854,000 new-owner households were formed during the first quarter of 2017 versus the 365,000 new rental households. It’s the first time in 10 years that there were more new buyers than new renters, according to Trulia.com. Seeing such a shift from buying a home rather than renting is a very good sign of ongoing confidence by young people in our economy. We are delighted to see that the younger generations are participating in the American dream of owning a home.
Given the strong rally today in bonds, we are biased toward floating rates as we can see rates dropping further in the short term. In the long term, the old notion of “don’t fight the Fed” must not be forgotten. The Central Bank continues to call for higher interest rates, and we feel one must be pay close attention to their commentary.
The April jobs report confirmed continued improvement in the labor force with 211,000 new jobs created in April, above the 180,000 expected. That was well above the anemic 79,000 jobs created in March, which had been revised lower from the 98,000 originally reported.
The report’s key data findings were as follows:
* The total unemployment or the U-6 number, fell to 8.6% from 8.9%, which is the lowest rate of unemployment since November 2011.
* The unemployment rate fell to 4.4%, the lowest level in 10 years.
* Average hourly earnings rose 2.5% year-over-year as of April, compared to the recent high of 2.9% in December.
* The Labor Force Participation Rate (LFPR) edged lower to 62.9%, still at decade lows.
Overall, the report was positive given that this is the 93rd consecutive month of the economic expansion. However, wage growth rates have been anemic even as more jobs are being created and this is one reason why bonds did not sell off in response to the report. Economists continue to be perplexed by the low rate of wage growth and the general lack of inflation considering the massive amount of liquidity that has flooded the global marketplace over the course of this economic recovery.
Interest rates remained basically unchanged from last week. It is unclear where the economy is headed from here, with various indicators conflicting. On one hand, strong corporate earnings and consumer sentiment reports suggest a surging economy. On the other hand, published soft economic data suggest things are anemic at best.
Domestically, the big news this week was the first reading on Q1 2017 Gross Domestic Product (GDP). GDP fell to 0.7% in the first quarter, below the 1.1% expected and below the 2.1% recorded in Q4 2016. In addition, consumer spending plunged to 0.3% from 3.5% last quarter, the weakest showing since Q4 2009. The weak consumer spending was blamed partly on the mild winter, which translates to less spending on utility bills. However, there were some inflationary readings that were bad for bond yields. Personal consumption rose 2.4%, the highest since Q2 2011. The inflation reading for the Employment Cost Index, which measures wages and benefits paid to workers, rose 0.8% in Q1 2017, the fastest pace in seven years. All in all, this mixed bag of GDP data did little to move bond yields off of current levels.
Overseas, Japan and Europe remain committed to keeping interest rates low as each country tries to stimulate economic growth. This has benefited U.S. bonds by providing a ceiling on spreads between foreign and U.S. government interest rates, and between mortgage and corporate yields, especially if one believes the economy is improving.
With the 10-year note yield once again hovering at 2.30%, we continue to remain biased toward locking in interest rates at what we know to be still near historically low interest rates.
Interest rates have moved lower. Combined with geopolitical anxiety and a persistently weak economic expansion, these factors have juiced the U.S. bond market this week. Treasury Secretary Yellen has recently remarked that a sweeping tax overhaul plan is nearly ready and the U.S. equity markets rallied on this news. Her statements have reassured the markets this week. Government and mortgage bonds remain attractive with the U.S. 10-year Treasury trading under 2.25%.
Bonds have benefitted from recent geopolitical trends. Fears of a possible Marine Le Pen election and potential “Frexit” have been spooking the market. There is a lack of certainty over how this will impact the Euro. This extreme move would have major global economic and geopolitical repercussions and may be one reason U.S. yields have dipped. Thankfully, the U.S. has engaged China to help calm down the situation in North Korea, and news out of Syria and Afghanistan has been quiet since the U.S bombings a couple of weeks ago.
From a technical standpoint, interest rates have not been able to break through lower resistance bands. Therefore, we remain biased toward locking in loans at these lower rates, especially given that most economists and even the Federal Reserve continue to discuss the justification for higher interest rates given the current state of the U.S. economy.
Government bond yields fell this week as investors are reconsidering whether or not Trump’s economic policies will deliver a welcomed boost to job growth, inflation, and interest rates. With many investors wondering how all this will play out, interest rates benefited by heading lower. Other factors further pushed yields down, including geopolitical events in Syria, North Korea, and France (where two of the four leading presidential candidates are European Union skeptics). The 10-year U.S. Treasury closed this shortened Easter holiday week down at 2.237%, its lowest level since November.
We can make the argument either way for both higher or lower interest rates and so we remain cautious with a bias toward locking.
Bond yields were muted this morning despite airstrikes in Syria yesterday and an underwhelming Jobs Report. One would think bond yields would fall given this combination of circumstances.
We will start with the jobs report.
The most recent Jobs Report notes that only 98,000 new workers were added in March, well below the 180,000 expected, while January and February readings were revised lower by a total of 38,000 jobs. The Unemployment Rate declined to 4.5% from 4.7% and below the 4.7% expected with Average Hourly Earnings rising only 0.2% versus the 0.3% expected. The Labor Force Participation Rate (which is a broader measure of employment) remained at 63%, a multi-decade low.
The significance of March’s punk Jobs Report is how it will affect the Fed’s interest rate forecast. The March jobs data does not support additional rate hikes and may give pause to the recent suggestions by the Federal Open Market Committee that 3 to 4 rate hikes are in order. Furthermore, the poor data within the jobs report supports the need for tax reform along with infrastructure spending in order to boost the economy.
Now on to Syria.
The U.S. launched a missile strike on Syria last night. U.S. officials described this as a one-off attack that would not lead to wider escalation. Typically, we would see bond yields drop in the face of such action, but we live in unusual times at the moment.
In closing, the U.S. bond market remains focused on President Trump’s economic policy reform which is unfriendly news for bond yields, and one big reason why U.S. bond yields are not trading as expected. Therefore, we continue to be cautious. This week, we are biased toward locking in interest rates at current trading levels. Should we see the 10-year Treasury break below 2.300%, we may see interest rates move lower.
Bonds are set to close out the week nearly unchanged. The stock market strung together a couple of good trading days even against the background noise of Trump’s healthcare reform getting punted. To date, the stock market remains resilient even in light of the failure of Trump’s administration to pass his pre-election promise of healthcare reform.
Currently, the stock market is trading higher on the assumption that tax reform will pass. If Congress does not approve Trump’s tax reform proposals, expect interest rates to move lower and the stock market will likely become increasingly volatile.
In economic news, inflation remains in check just below the Fed’s target range. The Core PCE, the Fed’s favorite inflation gauge, rose 1.8% year-over-year in February from 1.7% in January and sits just below the 2% target range. The Fed has intimated that it is comfortable with Core PCE reaching or, exceeding the 2% target rate. If inflation stalls here, it will be tough for the Fed to justify hiking rates since that tactic is typically used to stave off inflation. Only time will tell where rates go from here. There is momentum for higher interest rates although we can envision several arguments for lower interest rates based on the current state of global and geopolitical conditions, ie. Brexit, North Korea, a potential recession, etc.
The current state of the economy might suggest locking in interest rates, but we remain slightly biased toward floating rates at these levels and watching to see if the important 10-year U.S. Treasury note will touch down to 2.25% or if it will move higher above 2.500%.
Bond yields inched higher this week after a very strong rally after last week’s Fed meeting. The combination of increasing inflation data and strong employment levels yield the prospect of higher rates on the horizon. Lower interest rates remain a wild card, dependent on whether or not the Trump administration can push through their agenda through Congress.
The withdrawal of Trump’s health care reform bill from the Republican-controlled house late Friday sent stocks lower in late trading. As of this article, it seems unlikely that this bill will pass, which is a reminder of the difficulty Trump may have with the next big thing on his agenda, his controversial tax reform plan.
Bonds should benefit from this uncertainty while stocks may struggle to go higher in the face of this in-fighting. Only time will tell.
With the 10-year Treasury note at 2.410%, we are biased toward locking in interest rates at these levels, which remain quite attractive.
There were no surprises this mid-week out of the Federal Open Market Committee (FOMC). As expected, the FOMC raised short-term interest rates (aka the Federal Funds Rate) by .25%. The Fed Funds Rate is now .75% to 1.00%. Fed Chair Janet Yellen’s dovish commentary was the buzz of this recent FOMC meeting, spurring a rally in U.S. Treasury and mortgage bonds. Prior to this meeting, it was generally expected that rates would be raised in response to the strong economy, and this is indeed what we saw. While Ms. Yellen did comment on improving economic conditions, the bond market was comforted by the Fed’s plans to raise interest rates incrementally over time. Prior to the FOMC meeting, the 10-year Treasury note which was trading over 2.600%. Post-meeting, it closed the week out at 2.500% on the button. Mortgage lenders adjusted pricing for the better toward the end of the week.
In other news, inflation remains under control while rising slightly, and housing starts hit a four month high, which is a sign of greater confidence in the U.S. economy.
With the FOMC meeting in the rearview mirror, we are cautiously optimistic that interest rates could drop a bit lower. We envision that the 10-year Treasury note may trade down to 2.25%, but we are also closely tracking rates as a move above 2.62% on the 10-year Treasury note could mean much higher interest rates for mortgages.