Basically, Uncle Ben is in between a rock and a hard place... frankly if the American people were not so addicted to 'nearly free' money there would be zero issue with rates rising. It would indeed be a sign of health, even in my books. But our entire consumption based economy is based on 0% rates on cars, 5% mortgages and the like. I wont' even begin to go into the long term implications when a spendthrift country goes on without any restraint and the world demands ever higher rates to be paid on our debt in the out years (2011+) If I were in government I'd be issuing 100 year bonds at the ridiculous rates foreigners are willing to pay for our junk... err, debt. In the coming weeks we have a 10 year and 30 year bond auction, which traders will be focusing on very strongly - as we wrote the Chinese (our top creditors) are not stupid, and have been moving to buying short term debt rather than long term. [May 21, 2009: NYT - Chinese Becoming More Picky About Debt] Since our bond market is still the deepest in the world, and they have to stash all their cash (much of it from us) somewhere, they are sticking it in the place they can remove it the quickest. This shields them from long term inflation and default risk... I know, I know - the US default? Never. Go back 2 years ago and review all the things you thought could "never" happen to the richest* country on Earth.
*excluding debt
Conveniently, you know who (Mr Geithner) was in China last week... I am sure on his knees praying the Chinese keep buying our 10 and 30 year debt so we can create the mirage that they have full confidence in our policies. While they mutter "we hate you" for your policies under their breath. [Feb 13, 2009: Ft.com - China to US: "We Hate You Guys"] I would not be surprised if the Chinese do it this time around and then we can all clap like seals, because we got the Chinese stamp of approval. How backwards is this world turning... Meanwhile, China is working on multiple initiatives to diversify out of the US dollar / debt - but those will take a lot of time to work through.
Everything I said about the increase in rates turning from "a great sign" to "uh oh"; I say the same for the "great" oil jump and the "reflation trade". If this continues on, it will stop being a cute way for speculators to bank coin out of the gambling halls called the markets, and it will turn into a hand wringing event for the few of us who remain in the "real economy". But for now, it's all joy and green shoots.... and a lot of wasted money by all arms of government (and don't believe for a minute the Fed is now no longer "independent" and simply another branch of the government - who backs them up? The same taxpayer that backs up all other arms)
[Let me also repeat what I stated Friday, while I think directionally the moves happening in the dollar, bond rates, and the like are the long term trend - but the move has been so vicious and in a short period of time, I'd expect a short term correction pretty soon in the opposite direction - but it will be temporary]
Via AP
- The Federal Reserve announced a $1.2 trillion plan three months ago designed to push down mortgage rates and breathe life into the housing market. But this and other big government spending programs are turning out to have the opposite effect. Rates for mortgages and U.S. Treasury debt are now marching higher as nervous bond investors fret about a resurgence of inflation.
- That's the Catch-22 threatening to make an awful housing market potentially worse and keep the economy stuck in a funk. Kick-starting the economy requires higher spending, but rising rates mean fewer Americans will be able to refinance their home loans. And some potential buyers will be shut out of the market by higher monthly payments they won't be able to afford. (sniffle... 5.25% mortgages are so unfair to America)
- To understand how this is all connected, you have to think like a bond trader. Inflation is their enemy (inflation is all our enemies - we've just been brainwashed to believe it's great!) because it means the purchasing power of the dollars they receive when bonds eventually are paid off will be diminished. The only question is by how much.
- Yields on 10-year Treasury notes, a benchmark for home mortgages and other consumers loans, jumped from 2.5 percent in March around the time of the Fed announcement to as high as 3.7 percent in recent days as signs that efforts to stabilize the financial system and economy were starting to pay off. And 30-year mortgage rates jumped more than a quarter-point this week to 5.29 percent, the highest level since December, Freddie Mac reported. [Jun 3, 2009: Weekly Mortgage Applications of Interest Today; Fed Already Loses $5 Billion on Mortgages]
- "If the meltdown continues in the bond market, then mortgage yields will soon be at levels that choke off refinancing activity," said economist Ed Yardeni, who runs his own investment firm. "Even worse, they could abort any necessary recovery in home sales and prices."
- Yardeni coined the term "bond vigilantes" in 1983 to describe how traders took matters into their own hands when they felt the Fed wasn't doing enough to fight inflation, which was running at an annual rate of more than 3 percent at that time. (more 3%? try 13%?)
- So what has set off the vigilantes this spring, at a time when the consumer price index is down at an annual rate of 0.7 percent?
- One explanation is that bond investors anticipate a greater supply of government debt being sold to fund federal spending.
- Investors are also increasingly fearful that the trillions of dollars the government will need to borrow in the coming years to finance the various stimulus programs will lead to a new bout of inflation.
- "The bond market is calling the Federal Reserve out," said Mike Larson, a real estate analyst at Weiss Research Inc. in Jupiter, Fla. "Investors are saying that the Fed can't just print money out of thin air to finance a massive deficit." (the bond market seems to have more fortitude than politicians)
- "Even as we take steps to address the recession and threats to financial stability, maintaining the confidence of the financial markets requires that we, as a nation, begin planning now for the restoration of fiscal balance," Bernanke told the House Budget Committee.
- That kind of talk is meant to calm bond investors' nerves. It also shows the quandary faced by Bernanke and other federal officials. They need to hold down interest rates through massive government spending at the same time they have to deal with worries over how that spending could damage the economy over the long term.
- Seventy percent of refinancing activity could be knocked out as rates close in on 5.5 percent, according to Mark Hanson, a managing director at the independent research firm Field Check Group of Menlo Park, Calif. That's because homeowners wouldn't get much of a benefit if a refinancing only reduces monthly payments a tiny bit while they are stuck paying closing costs that typically run about 2 percent of the loan amount.
- "Half the deals in the pipeline are dead," Hanson said. "People were applying to refinance to improve their situation, but now they are seeing it won't be much improved."
- All this means that even though mortgage rates are still low by historical standards, many of the trends that seem to be pointing to economic recovery in recent months could be undone fast.
To finish, whenever I (rarely) blog something very specific to the bond market I have to pull out this hilarious quote from James Carville...
At the beginning of the Clinton administration in the early 1990s, adviser James Carville was stunned at the power the bond market had over the government. If he came back, Carville said: I used to think if there was reincarnation, I wanted to come back as the president or the pope or a .400 baseball hitter. But now I want to come back as the bond market. You can intimidate everybody.
