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Anthony Hood
Equity Investment Capital
Office: 949-891-0067
Email: tony@equityinvestmentcapital.com
website: www.equityinvestmentcapital.com

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Monday, February 07, 2011

The bond and mortgage markets opened weaker today after the big increases last week. At 8:45 the 10 yr note -7/32 to 3.67% +2 bp and mortgage prices -5/32 (.15 bp). Last week the dam that had held all attempts to push rates up broke opening the flood gates and driving prices lower and yields up. The only surprise was that it took as long as it did to break out of the bearish technical pattern; it should not have been much of a jolt except for those that refused to accept that interest rates were going higher. Better economic outlook and growing concern that the Fed may get its wish, getting the inflation up to 2.0% has finally engaged with investors and traders.
 
While last week was somewhat rattling for the mortgage markets we are not looking for a huge increase in rates this year. Likely the highest we will see is the 10 yr note moving up to 4.00% with occasional rallies within a new trading range from 3.50% to 4.00% for the next few months.
 
For a few months markets have wrestled with the outlook for inflation; prices of commodities were increasing rapidly but until the past two weeks there was little concern businesses and producers were going to absorb the increases. The reality sank in last week, prices of finished goods and foods will begin to be passed on to consumers. The government and the Fed have consistently ignored food and energy price changes when measuring inflation, the Fed still does. With the economy growing this year and emerging markets and the BRIC countries moving to curb their growing inflation rates concern has increased in the US as well. The Fed will not increase the FF rate this year and maybe not next year, but the Fed cannot control long term rates as easily as very short rates. With long term rates as low as they are any sniff of potential increases in inflation, even a little smell the bond and mortgage markets will move higher.
 
Russia, the only one of the so-called BRIC countries without capital controls, is following China and Turkey in relying on reserve requirements to drain cash from the economy and avoid luring more speculative investment. The central bank on Jan. 31 increased the mandatory reserve ratio while unexpectedly leaving its deposit rates unchanged after inflation in January accelerated to the fastest in 15 months. Policy makers cited the threat of rising capital inflows driven by higher oil prices. Emerging economies are weighing the need to curb inflation against the risk of attracting speculative capital from near- zero interest rates in the U.S. and Europe.
 
This Week's Economic Calendar:
        Today;
          3:00 pm Dec consumer credit (+$2.5B)
        Tuesday;
          1:00 pm $32B 3 yr note auction
        Wednesday;
          7:00 am Weekly MBA mortgage applications
          1:00 PM $24B 10 yr note auction
        Thursday;
          8:30 am weekly jobless claims (-2K to 413K)
          10:00 am Dec wholesale inventories (+0.7%)
          1:00 pm $16B 30 yr bond auction
          2:00 pm Jan Treasury budget (-$50.0B)
       Friday;
          8:30 am Dec trade balance (-$40.7B)
          9:55 am U. of Michigan consumer sentiment mid-month index (75.5 frm 74.2)
 
At 9:30 the DJIA opened +24, the 10 yr note yield 3.68% +3 bp and mortgage prices -9/32 (.28 bp). Unlikely interest rate markets will improve through the day with $72B of notes and bond auctions this week starting tomorrow. Investors and traders convinced inflation concerns would not increase are now in the process of reassessment given the technical breakout last week and growing real inflation fears spreading from emerging markets to all economies. That interest rates are as low as the are, any chatter that inflation MAY increase will pressure the long end of the curve and send mortgage rates higher.