Mortgage Credit News by Louis S Barnes- October 7th, 2019

It’s a little harder to find the heart of the matter than usual. So, begin with the conclusions of the financial markets, then see how well-supported by data, news, and theory.

Markets in the last week have added at least one more Fed rate cut than just one week ago, and all US interest rates are poised to make run to or through all-time lows. We can say this with authority because the 2-year T-note fell to a three-year low at 1.41% just since Tuesday’s 1.66%. Always watch 2s to forecast the Fed, not the media-darling Fed funds futures market, more often wrong than right. A 2-year security is very short-term, and can’t diverge from the overnight cost of money for long, especially below the cost of money.

The top of the Fed’s peg is now 2.00%. The 2-year at 1.41% says two or three quarter-percent cuts soon, inside six months, which would reverse all but one percent of the Fed’s hikes since they began at the end of 2015. One week ago markets assumed a pass by the Fed at its October 30 meeting, now a cut is near certain.

Long-term rates behave differently, but they are front-running the Fed, too. The 10-year T-note plunked from 1.75% on Tuesday to 1.52% today. Mortgages are trailing as usual, but back under 4.00%. Watch 10s: to maintain the stair-step decline which began last November, 10s will soon need to break 1.46%.

Is this swift change in psychology justified?

The market pattern during the entire eleven-month descent has been US rates pulled down by economic weakness and rate drops overseas. The pull-down had been grudging because there has been no evident contagion from overseas to the US economy. This week for the first time we have a collection of slowing reports.

The twin ISM surveys underperformed, especially manufacturing as we would expect under global influence, but now joined by a sliding service sector: the September results, respectively, 47.8 and 52.6, down 1.3 and 3.8 in one month (50 is breakeven). This morning’s job numbers from September were okay, including upward revisions for prior months, but media say doom-on-the-doorstep. The one weak aspect: no growth in wages, but that series has frequent odd spots.

There is no recession in these numbers, but they are slower. Nor is there linkage to the troubles in the outside world: the newest trade figures are from August, but our imports and exports have hardly budged. The only real change: a decline in imports from China, substitution to buying from other exporters clearly underway as no change in aggregate imports.

There is no particular new deterioration overseas, no new lower rates there. Stress is clear: Japan tried to raise the negative rates on its 10-year bonds and failed, markets too worried and not helped by the increased sales tax there. Europe is in Wolkenkuckucksheim (cloud cuckoo land), ignoring its own unsustainabilities in favor of keeping Britain a vassal. China... a Party celebration parade both ridiculous and awful to Western eyes, thousands of military exactly the same height and identical, just as Xi would have his people in body and mind. China is reverting to empire, Qin Shi Huang’s terracotta army 2,300 years ago. This top-down, patriarchal Confucianism is not playing well in Hong Kong, and failed in every contact with the West. Only Deng Xiaoping’s opening to ideas unleashed China’s potential, that opening now closing.

Most agree that impeachment is not moving markets, but global leadership gives me the creeps.

The heart of the matter for the Fed and policy here is strange, circular, and near exhaustion. The top of three years of Fed hikes was 2.50%. If this economy is headed for trouble, is a cut of 1% or 2% going to save it? Mortgage rates are already down 1.5% from peak and a half-percent from the all-time low. Who is to benefit? Consensus: more cuts will help stocks by chasing money from cash and eliminating fear of hikes.

The opponents of cuts at the Fed are worried about asset bubbles, stocks in particular. Pass the poison all the way around the circle. If the economy softens more, cut some more and then resume QE? Effectiveness questionable. The fiscal channel, spend some more? We’re at $1 trillion deficit now, the sugar-high of unproductive tax cuts all gone. How about $2 trillion and the Fed buys the paper? A boost, sure, but what part is sustainable? The one sure way to boost US GDP is immigration, a direct add, more people more GDP. Probably not.

Take solace in heresy. The slowing global economy is not the fault of the central banks and is beyond their repair, ditto QE and negative rates and Modern Monetary Theory (“MMT” and Alice’s Wonderland). We are slowing for natural reasons, aging and falling birth rates. But the unnatural reasons we might do something about: predatory trade and clumsy retaliation worse than the injury. Global trade is the Golden Goose, and we’d be better to tend it than disassemble it.

There is no global Fed, and we’re probably better off without one, and with flexible currencies to match our cultures. We do have excellent machinery for managing global trade, but using it requires leaders and polities to get off the grandstands and quietly make trades on trade.

Can be done!

The 10-year T-note in the last year. The descending tops and bottoms align in a perfect channel which will continue until it doesn’t, just like always. The slightest further U.S. softening and this one will continue:

The Fed funds rate changes in this cycle, about to come down faster than they went up:

The Atlanta GDP Tracker is current through today’s data, and nothing to panic about. Markets are panicky about what’s next: