Bonds Looking to Break Out of Downward Channel

Mortgage bonds are trading strong this morning.  From a technical perspective, they appear to be working their way sideways outside of the downward trading channel that has pushed rates higher the past couple of months. However, don’t celebrate too early. We need to close above the top of the channel tonight as well as make it through the slew of economic reports next week before this can be confirmed. Since today will be a light day for economic reports, the technical will be what matters. However, next week has some important reports, including the Fed’s favorite gauge of consumer inflation, the Personal Consumption Expenditures (PCE) report. If this shows that consumer inflation remains tame, we could see bonds rally. Generally, after an extended time of rates moving higher, we will see a correction period where mortgage interest rates improve before deciding which direction to ultimately head. This is long overdue and hopefully will be soon.

According to Bloomberg, President Trump believes that the recent tax cuts and all the additional government spending will increase wages without increasing consumer inflation.  This premise is largely based on the belief that wages have a long ways to go to catch up to levels they should be at before it starts to push consumer prices higher.  Further, it assumes that higher wages will not be passed on as an additional expense to consumers because companies will just share their tax savings with their customers. Although I believe part of this statement to be true, it’s difficult to imagine how higher wages will not translate to higher consumer prices. In our capitalistic system, companies will charge what the market is willing to pay for its goods and services. If consumers are making more money, they will likely be willing to pay more for things they buy. As a result, I believe that higher wages will add upward pressure to consumer inflation. Companies will look to maintain the additional profits resulting from the tax cuts. The hope will be that technological advances and increased productivity will hold inflation down.

Although bonds are performing well, the safe play remains to maintain a locking bias.