THURSDAY MORNING .....................................2/21/2008
Yesterday I said that rates would resist moving lower unless inflation concerns eased and quality perception of mortgage bonds increased. Today has introduced the dark horse to our current economic tumult. In short, I missed the call.
It appears that "crushingly poor economic performance" data still has the power to overcome the current inflation fears and lack of demand for bonds. We'll get to the other reports in a moment. The only important report today was the Philadelphia FED survey, which is an index of general business conditions. Analysts who were polled on estimated results expected the index to be fairly bad at negative 12.0. The report however demolished expectations with an abysmally horrible reading of negative 24.0. This is a big deal--one of those things that analysts really didn't see coming. And though I and others have argued the economy is worse off than the general perception admits, even we were not expecting this big of a slap in the face to economic growth.
The great news is that the bond markets have reacted! I would not have guessed they would react this favorably even considering the shocking Philly Fed Survey numbers. We have about a 50bps improvement on a 6.0 coupon and about a 100bps improvement on a 5.5% coupon. What does this mean? It's not certain how lenders will "price this in" this morning, but at this moment, it costs lenders 1% less to originate at 5.5% than it did yesterday. Hopefully a good portion of that will filter into today's rate sheets, but I'm not sure we will see the full amount until the bond price gains hold their ground.
The survey numbers were just released half an hour ago, the bonds skyrocketed, and lenders may be slightly conservative to account for the potential overreaction. So until you see the above mentioned improvement priced in to the rate sheets, you are probably safe to float for the first few hours of the day.
After that, it's very much anyone's guess. Now the lines for the next great battle are beginning to be drawn. On one side we have inflation and on the other side, blatant recession. The tricky part about this battle is that both sides could win, resulting in stagflation. In that case, no one wins. But if inflation is controlled enough and the economic data continues to be bad enough, rates could move lower. The general buzz on inflation is very negative. The next time we get a strong indication of inflation from an economic report it will be that much more resistance to rates moving lower. Today showed us that the markets were more concerned about recession than inflation, but the upcoming days and weeks could bring more surprises.
As such, it doesn't make sense for me, or anyone else to take a strong stance on interest rate direction. I can take a stand that the economy will continue to slow down and even recede due to a weak consumer. Inflation hawks can take a stand that inflation will worsen. The question is: how will Mortgage Backed Securities react?
So here is the only sure advice I can give you. Use your own knowledge and today's commentary to educate your clients on the current conditions surrounding the decision to lock a rate. If, on a given loan, you cannot afford to have the rate increase, of course you lock. If you are waiting for rates to decrease before you refinance, you might want to assess your reasons for refinancing and ask yourself if you are OK not refinancing at all on the chance rates continue to trend higher. Ask yourself if the risk is worth the reward. I will keep you updated on what those potential day to day risks and rewards might be, but as today as proven, no one can "see it coming" with a high level of certainty when it comes to rates.
Follow information regarding inflation and recession. The less inflation and the more recession, in general, will be good for rates. The thesis though is that because inflation is increasing in step with the signs of recession, it's really up to investors to determine the effect on mortgage rates. Perhaps neither side can win, so a compromise must be reached. Today was a glimpse of how that compromise might take shape with respect to the relative "weight" given to economic data in the face of inflation data. Stay tuned! Rates will be a fickle hellcat to say the least.