In what has become a tale of two different forecasts on the state of the U.S. economy, bond yields continue to test multi-year lows as stocks continue to climb the wall of worry. With all eyes on the G-20 summit and if a trade deal or path to a trade deal can be worked out, interest rates are stuck and equities grind higher. The outcome of this summit has the potential to move bond and equity markets in a big way, as well as the structure of our global economy. Also of concern is the slowing of corporate earnings, the decline in manufacturing data, and the move lower in consumer and business confidence (although readings still are high but off of higher levels).
Lack of inflation, as indicated by the Fed’s favorite inflation reading, the May core PCE reading, was unchanged at 1.60%. Low inflation serves as a benefit to bond yields and is yet another reason the Fed may bring down short-term lending rates at their next meeting. However, it is important to note that future price reductions in short-term lending facilities have already been priced in by “Mr. Market.” With the middle of the yield curve beginning to steepen from recent levels (although parts of the curve still remain inverted and should serve as a warning sign of heightened recession risk), absent a very big unforeseen negative event such as major bank default or big slowdown in economic activity, interest rates may be near the bottom in the U.S and both individuals and corporations are taking advantage of these lower rates via the surge in loan application and corporate bond deals.
The savings in monthly mortgage payments is a positive sign for consumer spending as those savings can be used to buy other goods and services. Lower rates also make home buying more affordable assuming it is not offset by a price increase. Considering the health of the U.S. economy in relation to the plunge in bond yields, we continue to be biased toward locking-in interest rates at these extremely accommodative levels.