4/23/2018 | Casey Fleming | You have probably heard that interest rates jumped in the last few weeks. And they have, in the sense that a hop onto a sidewalk curb is a jump. But the rise has pushed interest rates up into their highest territory in well over five years, so it’s worth talking about.
The three most important factors in interest rates
As I have said before, the three most important factors in interest rates are inflation, inflation and inflation. Normally, this means that interest rates rise because the economy is growing stronger, and that increases the risk of inflation. So, the economy must be booming, right? Well, not exactly. Most economic signals are mixed, indicating a steady, albeit slowly expanding economy.
Then signs of inflation must be showing inflation risk, right? Again, not exactly. So far, most measures of inflation have been pretty tame.
Remember, however, that investors look to the future. The risk factors are much more numerous than we are used to right now. Trade wars could increase the price of imported goods; if so, then inflation ensues. The price of energy (mostly oil) has increased quite a bit in the last couple of years. Take a look at the chart to the right, and you’ll see that oil has increased from about $25 per barrel to almost $70 per barrel in the last two years. While it has been higher historically, that’s a pretty big increase. (Graphic from Macro Trends)
This, and other goods and services that businesses pay for, is what is worrying the markets. Steel prices are rising due to new tariffs, and with a tightening job market wages and the cost of benefits are expected to rise, although they have not (substantially) quite yet. If the cost of making and delivering consumer goods increases, the price of those goods has to increase too, and investors are worried about that showing up in inflation numbers in the future.
On the flip side, a rising dollar does take some pressure off of the prices of imported goods, and improving production also takes off some pressure. So for now, consumer prices aren’t “jumping” by any means. For instance, the Consumer Price Index (CPI) report in May showed consumer prices rose just a little more than 2% in the last 12 months – well within the 2 – 3% target of the Federal Reserve.
This week’s risks
Tomorrow (Tuesday, April 24th) we will see the Consumer Confidence Index, which could tell us how likely it is consumers will pull out their credit cards to spend money. It’s been running high, however, so barring a huge surprise to the upside it should not move markets.
Tomorrow also brings us the Case-Shiller Home Prices Report and New Home Sales, which will tell us about the strength of the housing market. Are homeowner’s ready to start using their homes as an ATM again? Time will tell, but if they do it will boost the economy.
Wednesday is quiet, and so is our best bet this week for an improvement in rates, barring a strong rally in stock prices.
Thursday is very busy with the Weekly Jobless Claims and reports on Durable Goods Orders. A weak Jobless Claims report could benefit bonds, while a strong showing on Durable Goods Orders (think cars, refrigerators, etc.) would be bad. A strong Core Capital Equipment Orders report could portend higher economic growth, and therefore more inflation risk.
Friday brings us the all-important Gross Domestic Product index for the first quarter, which tells us how strong the economy is growing. This number will be adjusted when more data is in, so the preliminary number this week will only move markets if it surprises dramatically to either side.
The Employment Cost Index and the Consumer Sentiment Index (similar to consumer confidence) could both move markets, so expect interest rates to rise overnight on Thursday and then move down or up during the day on Friday depending on the outcome of the reports.
What the future holds
This week and next are busy, highly volatile weeks. Barring a selloff in stocks that is not driven by bond market direction, interest rates are not likely to improve much between now and the end of two weeks from now.
The most likely scenario for interest rates improving in this window period would be a steep stock sell off due to other outside factors, such as war or something equally undesirable.
With the recent increase in yields, however, there is room for small movement in the right direction if investors decide the rate increases have peaked for now.
It’s a tough call these days, but we are leaning more towards a bias for locking sooner, rather than later.
This article represents the opinions of Casey Fleming, and not necessarily those of C2 Financial Corp. This analysis was prepared with the best information available at the time it was written. Neither Casey Fleming, nor C2 Financial Corp., have any magical insider information about bond markets, real estate markets or mortgage markets that would make economic projections any more reliable than any other source. No warranty is made that the outcome will reflect the projections in this article, and neither Casey Fleming nor C2 Financial Corp. are responsible for decisions that you make regarding your own choices about your real estate or mortgage or those of your clients.
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