Category: Economics & Interest Rates

Will mortgage rates benefit from another flight?

Posted on by Evan in Economics & Interest Rates

With much of the market’s attention being focused on the Fed’s QE2 announcement & last Friday’s monthly jobs report one storyline is flying under the radar.  It’s been a few weeks since I’ve used the term “sovereign debt crisis” on this blog but it looks like it might be making a triumphant return.  The WSJ ran THIS POST on the Marketbeat blog this morning entitled, “Euro-Zone Debt Problems Getting Worse“.  In it the author points out that the yields on Irish and Portugal’s government debt have been rising as of late which means the fear of default are growing.  Irish government 10-year bonds are currently trading with a yield of 9.24% and Portugal’s at 7.33%.  To put this in perspective German 10-year bunds are currently selling at a yield of 2.41% and the US at 2.65%.

This could lead to another “flight-to-safety” in which investors of European bonds sell their positions and reinvest that money in US debt securities which are deemed to be less risky.  If they do that would benefit mortgage rates.

Online inflation guage

Posted on by Evan in Economics & Interest Rates

The WSJ’s Real Time Economics page led me to THIS WEBSITE which is a pretty cool project.  According to the website…

Inflation is a significant measurement for the economic health of countries around the world, but rates are often reported weeks after data is collected. To address this problem, Professors Roberto Rigobon and Alberto Cavallo at MIT Sloan School of Management have launched the Billion Prices Project (http://bpp.mit.edu), the first Website to publish daily price indexes and provide real-time inflation estimates around the world. Over the past three years, the team developed a methodology to systematically collect prices of items sold by online retailers and compute inflation statistics on a daily basis. More than 5 million prices are monitored every day from categories such as food and beverages, household products, electronics, apparel, and real estate. While the project tracks prices in more than 50 countries, it currently publishes data for a smaller subset that includes the U.S. and U.K. as well as Argentina, Australia, Brazil, Chile, China, Colombia, France, Italy, Turkey, and Venezuela.

If you’re a reader of ‘rate update‘ you know that inflation is the primary driver of mortgage rates so I might start checking into the BBP price index as a part of my research.

Probabilty of defaltion low according to new paper

Posted on by Evan in Economics & Interest Rates

Yesterday I blogged about TIP’s and how they can be a forecaster of inflation and thereby mortgage rates (you can view that post HERE).  By coincidence the Federal Reserve Bank of San Francisco also released a paper on the topic of TIP’s and inflation as well and the summary suggests the markets believe that deflation is an unlikely scenario.

“The low level of inflation and the sluggish pace of economic recovery have raised concerns about sustained deflation—an inflation rate below zero with a general fall in prices. However, the relative prices of inflation-indexed and non-indexed Treasury bonds, which historically have proven to be good measures of inflation expectations, suggest that financial market participants consider the probability of deflation to be low.”

The threat of deflation is one of the primary reasons why long-term interest rates have been driven so low recently.  It is also the reason why the Fed has indicated they are likely to engage in another round of quantitative easing.  This further suggests that rates may have bottomed out at current levels.  It will be interesting to see what happens next week after the Fed provides details about QE2 but I am not entirely convinced that rates will move substantially lower.

Watching TIPS can be a forecaster for mortgage rates

Posted on by Evan in Economics & Interest Rates

The WSJ ran THIS ARTICLE over the weekend which highlights the recent performance of TIPS versus standard US Treasury debt securities.  “TIPS” is an acronym which stands for Treasury Inflation Protected Security.  The difference between owning TIPS’s and a normal US Treasury note is that with the TIPS’s the US government will compensate the holder for actual inflation thereby paying a guaranteed real rate of return while with the standard US Treasury note the note-holder bears all inflation risk.

So how are TIPS significant in terms of gauging mortgage rates?  We know that inflation is the primary driver of mortgage rates.  When expectations for future inflation rises then long-term interest rates rise as well, including rates on mortgages.

What THIS ARTICLE points out is that over the past couple weeks TIPS’s have outperformed standard US Treasuries after under-performing for the first 9 months of the year.  This is may be an indicator that the markets view of inflation/ deflation is shifting back towards an inflationary bias AND that mortgage rates will soon begin to rise in reaction.  Of course, the market’s outlook can change with new information and we expect the Fed’s post monetary policy statement on November 3rd to be a significant new piece of information.

Varying views on inflation and therefore mortgage rates

Posted on by Evan in Economics & Interest Rates

The WSJ blogged this post this morning on the heels of the release of the CPI report.  Given that inflation is the primary driver of mortgage rates I thought you might be interested in reading the different views from economists.  In reading these remember that greater-than-expected inflation would put upward pressure on mortgage rates and deflation would cause rates to dip even lower.

Planet Money Does Piece on Crowding Out Effect

Posted on by Evan in Economics & Interest Rates

A month or so ago I wrote this post on the impact of government borrowing on interest rates.  Basically, as the government borrows more and more money they “crowd out” private sector borrowers or force them to pay higher interest rates.  Last Tuesday NPR’s Planet Money Team did this podcast in which they visit Jamaica and talk with a tire repairman who is unable to obtain capital to expand his business and a billionaire Michael Lee-Chin who owns a bank which lends most of its money to the Jamaican Government.  If you wanted to learn more about this concept it’s worth the time.

A stronger yuan will pressure mortgage rates higher….eventually

Posted on by Evan in Economics & Interest Rates

On Saturday the Chinese government announced that they would allow their currency, the yuan, to float in a broader trading range against the US dollar.  This morning the yuan rose to the highest level in the modern era.  How might this impact mortgage rates?

For years the Chinese government has subsidized foreign currencies, especially the US dollar, in an effort to keep the cost of their exports low for foreign consumers.  This is partly why so many of our goods are manufactured in China.

One of the ways in which the Chinese government accomplished this objective was by investing heavily in US dollar-denominated assets such as US Treasuries and Mortgage-backed bonds (MBS’s).  By exchanging Chinese Yuan for US Dollars to purchase these assets they were able to create high demand for the US Dollar which drove up it’s price relative to the yuan.  It also created substantial demand for these types of assets which has helped keep interest rates low.

The US has been putting political pressure on China for months to loosen their monetary control over the two currencies.  US politicians would like US goods and services to become less expensive to the growing consumer population in China.  The announcement over the weekend is a sign that China is finally feeling more confident in their ability to generate domestic demand for their own goods.  This is good news for US manufactures and exporters BUT it’s not particularly good news for mortgage rates because China is likely to pull back on their aggressive US dollar-denominated asset purchases.

I don’t anticipate this impact of this announcement to be extremely acute but with time I would expect it to pressure rates higher.

What’s next for rates? It depends on inflation

Posted on by Evan in Economics & Interest Rates

I’ve written repeatedly on my ‘rate update’ posts that inflation is the primary driver of long-term mortgage rates.  When inflation expectations rise mortgage rates follow suit and vice-versa.  As I wrote about last September the government’s fiscal stimulus efforts have pumped substantial amounts of money supply onto the Federal Reserve’s balance sheet.  According to Irving Fisher’s equation of exchange if that money seeps into our nations money supply we can expect price levels to increase once the economy has rebounded.

In this months Journal of Financial Planning Joseph Becker takes a different approach.  In THIS ARTICLE he looks at the ratio of money supply and GDP (M2/ GDP).  His conclusion is somewhat alarming:

Figure 2 indicates that after peaking in 1965, M2/GDP began a 30-year downward trend that bottomed in 1997. Since then, M2/GDP has been on an upward trend that accelerated during the difficult economic environment of 2008 and 2009. It is interesting to note that in 2009, the gap between M2/GDP and the rate of inflation reached 61 percent. The only time during the previous 50 years that it was higher than 61 percent was in the early 1960s, a period that was followed by 15 years of significant inflation.

If he’s right, then many of the inflation hawks might be right.  Today’s fiscal stimulus could turn into tomorrow’s hyper-inflation and therefore higher mortgage rates.

PIMCO’s Scott Simon on mortgage rates and housing

Posted on by Evan in Economics & Interest Rates

Normally I’m not a huge PIMCO follower.  In case you don’t know PIMCO is the world’s largest bond investment money manager and home to many top name economists and analysts.  The comments made by PIMCO officials often get headlines almost like an official of the Fed. And although I don’t “goon” for PIMCO like many do I came across this blog post this morning and found Scott Simon’s comments interesting.  So, I guess I’ll jump on the band wagon and publicize them too:

-On mortgage rates:

We are unlikely to see a significant market disruption in the Agency market stemming from the Fed’s retreat. … if and when we see mortgages cheapen, we expect to see private institutions stepping in to buy. Even a 15 basis point move could spark a flurry of buying. Therefore, we don’t expect a major widening of mortgage spreads …

Translation: He doesn’t expect to see mortgage rates move sharply higher following the Fed’s expiration of the TALF program which helped subsidize mortgage rates over the past year.

-Will the Fed reenter the MBS market and buy rates down again?

Probably not. Barring a major double dip in the economy or housing, private balance sheets have plenty of room to add Agency MBS (unlike in late 2008, when the Fed program began).

-On housing:

We continue to believe that lower-priced homes bottomed last year. Higher-priced homes should bottom later this year. If one labels recovery as prices rising dramatically, we do not foresee that anytime soon.

M24U

Posted on by Evan in Economics & Interest Rates

Last September I wrote this article for my newsletter in which I introduced my readers to the Irving Fisher’s equation of exchange which reads MV=PT where M= money supply, V= velocity of money, P=price level, and T= quantity of goods and services transacted (real Gross Domestic Product [GDP]).

The thesis of the article was that due to the Federal Government’s extraordinary efforts to stimulate the economy the nation’s money supply has grown rapidly so we need to be cautious of inflationary pressure; and therefore higher interest rates in the future.

In this morning’s WSJ Kelly Evans sets the record straight by arguing that not only is inflationary pressure an immediate concern for our economy but quite the opposite policy makers should continue to look for ways to boost the money supply to avoid deflation. 

In the article she uses the “M2” definition of money supply.

The nation’s money stock, known as “M2,” includes physical currency, bank deposits and households’ money-market holdings. The money stock’s growth, which historically averages around 5% a year, has stalled over the past 18 months since the credit crisis intensified in late 2008.

As measured by M2 she has a point.  However, in time it is possible that the Fed’s ballooning balance sheet could work it’s way into the M2 measure of money supply.  Furthermore, as economic activity picks up we will also see the velocity of money (V) increase along with GDP (T).  Therefore, when you look at the equation of exchange that only leads to higher price levels and interest rates.  We’ll have to wait to find out.