U.S. bond yields rallied this week in response to several factors including uncertainty surrounding the French presidential election and the recent dovish language of the recent Fed minutes.

Why are bonds rallying when many believe that there is still room for rates to continue to climb? It seems as if the bond market does not fully buy into this recent equity rally, in which all major indexes are at all-time highs. Earlier in the month, Goldman Sachs stated that the market was trading at “maximum optimism”. Bond traders know instinctively that things don’t often go as planned. There are also mixed opinions as to whether the Fed will act in March and raise short term interest rates. If rates continue to remain low, bond traders may be in the process of adjusting their positions in response to this assumption.

We’re seeing more economic data that support a rise in inflation and predict continued low unemployment. Due to these factors, we are cautiously biased towards carefully floating interest rates with an eye toward locking at the first sign of a reversal of these lower rate trends.

Mortgage bonds remain range-bound as the 10-year U.S. Treasury note continues to trade this week between the 2.40% -2.52% range. Overall, bonds are trading well even in the face of multiple factors, including: a higher stock market (all major indexes are at all time highs), evidence of inflation as seen in the recent CPI report, solid regional manufacturing data, and the somewhat hawkish comments that came out of the Fed this week.

We wrote last week about banks’ tightening their interest rate margins in response to slowing mortgage demand. We continue to see this play out and believe this is a good reason to lock-in interest rates at these levels. The positive economic data supports higher interest rates which is evidenced by rising CPI, low unemployment, and high asset prices in real estate and in equities. When we consider the aforementioned issues with the potential (as yet to be unveiled) tax reform plan, then it is hard to argue for lower interest rates in the near term.

With interest rates still at historically attractive levels, we are biased toward locking-in rates given all of the data that suggests the potential for higher rates in the coming months.

Bonds yields are higher in response to continued positive trading in the U.S. stock market with all major indexes at record and or above record levels. Also, the announcement by Trump of “big league” tax reform juiced the equity markets yesterday and resulted in a sell-off in bonds which continued into today. If Wall Street responds positively to Trump’s tax policies when announced in a couple of weeks, then interest rates will rise. We have yet to see how effectively the Trump administration will implement new tax policies. However, the stock market continues to trade positively in response to Trump’s stated economic policies at the expense of bonds.

Given that rates are still very attractive, and banks’ loan origination volumes are slow, which typically results in tighter profit margin on loans, we remain biased to locking in interest rates at these levels.

In January, the U.S. jobs report was strong, and bond yields traded higher in response to this important monthly report. The government reported that U.S. employers added 227,000 new workers in January, above the 170,000 new jobs expected. The unemployment rate rose to 4.8% from 4.7% and the Labor Force Participation Rate (the number of people that are employed and or who are actively seeking work) rose to a four-month high of 62.9% from 62.7%. The U6 number (reflecting the number of part-time workers who’d prefer a full-time position and people who want to work but have given up looking came) in at 9.4%, up slightly from 9.2%.

As discussed previously, interest rates have moved up after the U.S. election in response to a belief that more pro-business policy under the Trump presidency will lead to higher wages and economic growth. So far, while interest rates have risen from multi-year lows, rates are still attractive. These low interest rates will continue to fuel home sales, which is important to the U.S. economy. We continue to monitor interest rates very closely, especially the 10-year U.S. Treasury which is trading at ~2.490%. Key for mortgage rates is that the 10-year U.S. Treasury remains below 3.000%. It would be even better if it remains below 2.500%, which is an important psychological threshold for many investors and borrowers.

We remain biased toward locking in interest rates for clients due to the continued pro-business rhetoric from Washington which could cause rates to move higher and without warning.

The Dow’s climb above 20,000 was all the buzz of this week. However in other news, housing and economic data were not so rosy. New home sales fell sharply in December as a result of both increased housing prices and interest rates. Also, Gross Domestic Product (GDP) growth in the final quarter of 2016 was weaker than expected. GDP grew by 1.900% in the last quarter of 2016, below the 2.2% expected and down from the 3.5% reported in the third quarter. Overall, in 2016 GDP grew by a tepid 1.9%, down from 2.6% in 2015 and it was the worst showing since 2011.

Bond yields are trading modestly lower in response to both the poor GDP and the slow economic growth.
With rates virtually unchanged this week, we continue to closely monitor the 10-year Treasury Bond, which is trading a tad under 2.500%. We remain biased toward advising clients to lock in interest rates, although we could foresee the possibility of a small drop in interest rates given the current economic and political environment.

U.S. government bond yields surged this week and touched their highest level since 1/3/17 as the 10-year U.S. Treasury traded above the very important psychological 2.500% mark on the morning that President Trump was sworn in.

Bond yields rose in response to several factors:

1. Inflations reports out this week confirmed an uptick in core inflation.
2. Janet Yellen, Fed Reserve President, reaffirmed that she sees short-term interest rates continuing to rise.
3. The inauguration of President Trump and the idea that more business-friendly policies will lead to an increase in inflation, as well as higher income and economic growth.

While bond yields have moved higher, there are still many skeptics who do not see interest rates rising much further. One reason is that compared to Europe or Japan, US interest rates remain very attractive. This may serve as a ceiling for how high US rates may go. The next few months will be key as the markets have moved on the promise of a better tomorrow. How the new President and his team implement the actual policy is yet to be seen and our economy is still only growing ever so gingerly.

Technically, mortgage bonds are looking weak so, for now, we remain biased toward locking-in rates due to the potential of a continued climb in bond yields.

Interest rates rose Friday morning in response to a slightly hotter-than-expected wholesale inflation report, but this early sell-off reversed course as bonds traded better toward the end of the business day. The sell-off was prompted by a .3% increase in the Producer Price Index (PPI), also known as the wholesale inflation number. This was in line with estimates, but still suggests increased inflation. Core PPI, which strips out volatile food and energy, also reported slightly higher inflation numbers. Finally, year-over-year PPI, increased 1.60%.

Bonds remain oversold but technically have been unable to break out above key price points. We continue to advise clients to be cautious and we feel that locking in rates is prudent. Bill Gross, the famed bond manager, recently wrote that the key data point he is watching is the 10-year U.S. Treasury bond. His belief is if the 10-year Treasury rises above 2.60%, then rates will indeed go much higher. If not, the bull market in bonds is still intact.

Interest rates rose in response to a lackluster December jobs report. Within the report, there was an increase in hourly wages from November to December, which is inflationary and probably the reason for the sell-off in bonds. Wages also increased year over year at 2.90%, the largest increase in many years. The headline jobs number came in lower than expected with 156,000 jobs created versus 175,000 projected. The unemployment rate ticked up to 4.70% and the closely watched labor force participation rate and U6 reading ticked up as well.

Going forward, we don’t envision rates shooting straight up, however we are mindful that it’s more likely that interest rates will increase in the coming months given the President-Elect’s desire to create a more pro-business and pro-growth environment.

As we quickly approach the symbolic Dow 20,000 benchmark, some of Wall Street’s best and brightest are calling for an end of the 30-year bull run in bonds. The U.S. 10-year Treasury Note, the world’s benchmark for pricing everything from mortgages to long term corporate debt, broke through the psychologically important 2.500% threshold this week. The 10-year note has surged almost 1 percentage point since the November election. This is a drastic and destructive move and the pain is being felt by bond holders who have seen their bond portfolio trade sideways in response to the increase in both domestic and global yields.

The reason for the increase in bond yields is not complicated: it is driven by prospects of a more business-friendly government and the expectations of lower taxes, increased wage growth, and ultimately future inflation.

On a positive note, while rates are going higher, we should not expect the purchase market to slow materially. In fact, if we do see economic growth, higher confidence, and whiffs of inflation, then we should expect the purchase market to do well.

Rates should be locked based on the fact that the current market is highly volatile.

Equity markets surged higher as the Trump rally continues at the expense of bonds. The 10-year U.S. Treasury Bond rose to 2.467%, but closed below the psychologically important 2.500% mark. We were somewhat encouraged earlier in the week by how U.S. bonds responded to the European Central Bank’s (ECB) remarks about trimming their quantitative easing (QE) programs next year. One would think that the reduced monetary stimulus would have major negative impact on bond yields. This has yet to prove true, but Friday’s sell-off in the bond market could mean bond yields will go higher.

All eyes will be on the Federal Reserve next week as the futures market has all but confirmed that the Fed will be increasing short-term overnight lending rates. With a hot stock market, unemployment under 5%, and a pro-business administration about to take office, there is no reason not to increase. Experts have stated that this Fed increase has already been backed into the bond market and the reaction to the Fed’s increase will be a non-event.

We continue to watch both the equity and bond markets carefully. It is hard to argue against locking interest rates as they are swiftly rising, but one can make the argument that equity markets may have gotten ahead of themselves and that bonds are due for a positive bounce.