Morning Report: Bond Vigilantes returning? 2/12/18

Vital Statistics:

Last Change
S&P Futures 2648.5 29.8
Eurostoxx Index 373.8 5.1
Oil (WTI) 60.3 1.1
US dollar index 84.2 0.0
10 Year Govt Bond Yield 2.87%
Current Coupon Fannie Mae TBA 103.591
Current Coupon Ginnie Mae TBA 103.688
30 Year Fixed Rate Mortgage 4.37

Stocks are soaring this morning on overseas strength. Bonds and MBS are down.

No economic news today. The only market moving data this week should be the Consumer Price Index on Wednesday and the Producer Price Index on Thursday. We will get some housing data, with starts and the FHFA House Price Index, although those should not matter to the markets. Bonds are probably going to be an inverse stock ETF for a while – meaning that when stocks are down, they will be up and vice versa.

Old timers may remember the term “bond vigilantes” from the early days of the Clinton Administration. Early on in Bill’s term he wanted to do a fiscal stimulus package which would have increased government spending. As he talked about increasing spending to goose the economy, the bond market would sell off in response, raising interest rates. In other words, the government’s plan to increase economic growth via government spending was being offset by the market (increasing rates are generally bad for the economy). At one point, Bill Clinton was so exasperated, he exclaimed: “You mean to tell me that the success of the economic program and my re-election hinges on the Federal Reserve and a bunch of f****** bond traders?” James Carville, Bill’s strategist once said ““I used to think that if there was reincarnation, I wanted to come back as the president or the pope or as a .400 baseball hitter. But now I would like to come back as the bond market. You can intimidate everybody.”

Fast forward to today. With the spending deal in place, along with a possible infrastructure plan, the economy will be getting plenty of stimulus and government spending. The bond market has been artificially supported by the Fed and global central banks, and that is unwinding. The bond vigilantes may be coming back, which is ironic since probably 3/4 of the bond traders on the street are experiencing their first tightening cycle. But, the trader in me sees the path of least resistance in the bond market as down, which means that rates are generally heading up. In practical terms, this means floating is a lot riskier than it used to be. During the last 30 years, rates generally moved down over time, so if you floated you often did well on that trade – you weren’t paying for a lock, and your rate at closing was probably better than it was when you opened the file. Given the change in market direction, the risk of floating is that the rate will increase over time, and in that circumstance it might make better sense to lock. Note that this isn’t a forecast of the bond market over the next 45 or 60 days, but an observation that the market “feels” like it wants to go down. It is something to keep in the back of your mind when discussing a lock with a borrower.

The House tweaked some of the “points and fees” language in Reg Z last week. Democrats have been universally opposed to the Financial CHOICE act, which makes some changes to Dodd-Frank. This may have a chance in the Senate, or at least a better chance than CHOICE would.

Best headline from last week: Low volatility ETN dies of irony. This was in reference to the XIV inverse VIX ETN which blew up early last week.

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