18 Feb Very carefully float
Mortgage bonds continue to get pounded, as an overly exuberant stock market drains money out of the bond markets. Stocks have been on an unstoppable run higher since February 2nd. However, in looking at the stock market charts it appears possible that they have hit a crest at 2100 in the S&P 500 and may now round back down lower. This cycle of large moves higher followed by a small correction has been in play since the end of Quantitative Easing and will likely continue without the support of the Federal Reserve. In times when the stock market moves higher we will likely see upward pressure on interest rates. When the stock market moves lower that will help drive more money into the bond market which in turn will help lower interest rates.
Poor economic news continues to dominate the headlines. Today we learned that purchase mortgage applications dropped -7% from last week and that Housing Starts were -2% when compared to the prior month’s figure. More significantly, the Producer Price Index (PPI) was reported at -0.8%, which was worse than the -0.5% expected. Since this measures inflation on a wholesale level, it is not as widely scrutinized as it doesn’t necessarily translate to higher or lower prices on a consumer level. However, it is a reflection on what is happening in the economy with regards to overall inflation. With inflation still well below the Fed’s target rate of 2%, it will be challenging for the Fed to raise short term interest rates. If they do, we believe it is more of a show and not due to a belief that it is needed to slow economic growth. Remember, the last recession started over seven years ago. The recessionary cycle tends to repeat every seven years. Just something to consider….
Although it is too early to call a bottom in the bond market, there are signs that we may have found support. Much of this will depend upon how the stock market performs. If stocks have capped at current record highs, we may see bonds improve from here. However, in the meantime there is risk to floating. If you choose to float, watch the stock market closely as well as the bond market. With how quickly the losses in the bond market have accumulated, we can see further deterioration at a moment’s notice.