Last week I wrote that interest rates were going to take a dive in response to stock market movements since the beginning of the year. Let’s see how that turned out.
The stock market continued downward on Tuesday and Wednesday, but rebounded at the end of the week, halting a three-week run-down of stocks. (See chart to the right of movement for the S&P 500 for the month of January 24, 2016.)
Treasury bonds don’t always respond to stock price movements, but do more often than not. The 10-year U.S. Treasury bond rebounded from lows the week before in exact concert with stock movement this week, showing how money moves between the investment alternatives. As stocks begin to fall money rushes into bonds and the increased competition for them drives interest rates down. As stocks rise money rushes back into them, decreasing competition for bonds and drives interest rates back up. So, in a perfect market, stocks go down, interest rates go down. Stocks go up, interest rates go up.
In the chart to the left you can see an almost exact correlation between stock prices and interest rates, as measured by the S&P 500 and the 10-year treasury yield by comparing the yield on the bonds in this chart to the stock prices in the chart above. The 10-year treasury, as you may recall, tends to be a leading indicator for mortgage interest rates.
So in the last week, stocks continued to fall and then recovered on Thursday and Friday. Money moved from stocks to bonds on Tuesday and Wednesday, and back to stocks on Thursday and Friday. How did this impact the actual mortgage rates people were being offered?
As predicted, “retail” mortgage rates (the rates actually offered by lenders to borrowers) fell fairly dramatically on Tuesday and Wednesday. But remember that retail rates tend jump up quickly in response to market movement, and settle down slowly. Lenders are cautious about offering super low rates until they know for sure the trend is going to stick. Retail rates fell on Tuesday and Wednesday, jumped on Thursday, and were settling down again by Friday afternoon.
Let’s look at the chart above and dissect this. The red line is the ten-year bond yield. The blue line tracks the Fannie Mae 60-day yield – the interest rate (yield) demanded by Fannie Mae on any given day. This is based on the yield investors demand for mortgage-backed securities, which you can see fairly closely mirrors the 10-year bond. (Now you see why the Treasure Bond yield is so closely tracked by mortgage interest rate watchers.)
The green line represents retail interest rates – the interest rates actually locked by lenders over the course of the last week. When the red line falls the blue line follows quickly (usually) but the green line lags. However, the green line jumps up in response to the other two when they jump up. Notice the dramatic improvement in retail interest rates this week (the green line.) But also notice that the blue and red lines ticked up a bit at the end of the week.
So, we can expect interest rates to back up a bit this coming week, barring another precipitous drop in the stock market. At this writing (late Sunday evening, PST) world equities markets are fairly stable with very little movement, and U.S market futures are looking like markets are barely moving.
Interest rates love a stable market, so we may well see some more improvement this week. However, the spread between the bonds and mortgage rates has narrowed back down into normal territory, so barring major movement in the stock market I would expect stable rates, or slightly improving this week.