China Strikes Back

Stocks are once again falling hard as fears over a trade war continue to plague the market. It was just a few weeks ago when the stock market took a strong jump higher as investors believed a trade agreement was imminent. So, this turn of events is just a part of the cycle that we have been going through for the past year or so.

Today’s fears were sparked by a retaliation plan announced by China stating they would be raising tariffs against goods being imported out of China into the US. This is bad news for US consumers, as tariffs are essentially the equivalent of a tax hike. Since there will still be a demand for goods being imported, this will just raise the price that consumers in the US pay. That “tax” is highly inflationary, which is the arch enemy of mortgage bonds and will add upward pressure to mortgage interest rates. However, given that the stock market will likely continue to suffer, that will help support more money flowing into the haven of mortgage bonds. Therefore, the net impact on interest rates is difficult to foresee.

At the end of the day, if China wants to achieve victory over the US, they have the power. All they would need to do is sell off their holdings of 10-Year Treasury Notes. That would cause so much pressure against the US dollar that it would most certainly create a recession. Since this would also hurt China, they may not use that as a weapon. However, some world leaders have been known to sacrifice their own people for victory or revenge. Let’s hope that doesn’t happen in this case.

Mortgage bonds are now above the critical ceiling we have identified the past couple of weeks. If bond prices can make a decisive break, we will then turn to a floating bias. But in the near term, the risk of floating is elevated. Now is a great time for some to lock.