Locking bias

Mortgage bonds improved a bit this morning; however they remain beneath the ever important 200 day moving average.  The challenge will be to see if bonds are able to make their way up above this level or if they will ultimately make a more decisive break lower.  When considering recent economic reports, bonds prices should be improving more that they have.  However, the primary fear driving the markets right now is the threat of a Federal Reserve interest rate increase happening in the month of December.  Although we don’t see that as a likely outcome, it is a possibility.  Given the unknown risk to the market, many investors are choosing to sit on the sidelines until they have a clearer vision as to what that will mean to their investments.

The Employment Cost Index (ECI) which was once Alan Greenspan’s favored reports for inflation, measures the total employee compensation costs including all wages and benefits.  The index was reported to be up 0.6% for the third quarter, with a year over year increase of 2.1%.  This is a modest gain and is not showing a strong argument to support higher consumer inflation.  Personal Income and Spending both rose by only 0.1%, which was lower than the estimates for each of 0.2%.  Further, Personal Consumption Expenditures (PCE) was also below expectation, coming in at 0.1%.  Year over year, the Core Rate remained at 1.3%.  This is well below the Fed’s target rate of 2.0% and a further sign that our economy is not prepared to sustain higher interest rates.

With mortgage bonds now beneath their 200 DMA, the safe play will be to maintain our locking bias.  If bonds are able to make a break above this important level, we may see rates move back down to where they were prior to the Fed statement.  However, since breakouts are the exception and not the rule, we must plan for the worst and hope for the best.