Risk of floating remains high

Mortgage bonds gained back their losses in yesterday afternoon’s trading. Fed President Janet Yellen showed that the Fed lacks the confidence to move the Fed Funds rate higher at this time. At this point, many pundits and economists are getting angry with the Fed’s lack of action to slow an over inflated stock market and red hot housing market. One of the greatest concerns the market has at this time is inflation. It is clear that consumer prices are moving higher. If the Fed fails to combat the rise in inflation before it spurs out of control, the market will raise longer term rates to compensate for the loss of value potential inflation will have on their fixed investments. This means that mortgage rates will move higher. Although it seems counter intuitive, a Fed rate hike could be what mortgage rates need to slow the pace of mortgage rates increasing. The Consumer Price Index (CPI) for the month of May showed that consumer prices increased by +0.4% in the month of May. Although this was below the +0.5% anticipated, it was the biggest single month gain since 2013. Core CPI (CPI less food and energy), was reported at +0.1%, which was also cooler than the +0.2% expected. On a year over year basis, CPI is 0.0% and Core CPI is +1.7%. One of the major influences of inflation is the price of oil. Since reaching a low a few months ago, oil prices have risen greater than 26%. The influence of low oil prices is what helped bring down inflation numbers, which also helped reduce mortgage interest rates. Now that oil prices have stabilized and moved higher, we can anticipate both inflation and mortgage rates to move higher. Although now close to the top of the channel, mortgage bonds remain in a wide long term down trend. This means that rates will continue to slowly grind higher over time unless we are able to break out of the channel. The risk of floating remains high. We will maintain our locking bias.