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September 15, 1995
Mortgage rates had no trouble staying in the sevens this week, and 7.75% thirty-year loans were available at "zero and zero" prices.
Most data were helpful to bonds and mortgages. The twin reports on inflation were nothing short of victory: producer prices fell .1%, and the CPI rose only .1%. Retail sales rose .6% in August, but aside from a modest rebound in automobile sales, every other retail product had flat sales for the second month in a row.
In the last two weeks there has been a significant change in bond market psychology.
This morning, the Fed released strong news for the economy -- so strong that it should have splattered the bond market: industrial production jumped 1.1%, triple the consensus forecast, and capacity use surged a full percent.
Markets yawned. Early trades were weak, but by noon, bonds had shrugged off the whole thing. An old traders' wisdom: "A market that won't crash on bad news is destined to improve." Like most parables, this advice is correct only maybe 51% of the time, but it seems valid, here.
In a second sign of change, 30-year bond yields dropped to 6.45% on Thursday, a new low for 1995. Only four weeks ago, the market was struggling to stay under 7.00%, and even during the springtime recession fears, bonds couldn't get below 6.50%.
There is no recession chatter now, but the data are just weak enough to put the Fed back into play.
You would never know it from the commentary of Fed officals. In the last few weeks, every member of the board of governors has taken pains to speechify: "The economy is on a solid growth pathŠ", "The fourth quarter should see a 2% or more growth rateŠ", and so on.
I think I detect the swishing sound of the ol' jawbone nearby. "What, us do something? Ease? Why, what would make you think a thing like that?"
Why would the Fed take such pains to display neutrality? Because they eased in July, for the wrong reason, and with perverse effect. They eased for political reasons: Mr. Blinder and Ms. Yellen, Mr. Clinton's appointees, heard the siren call from the White House and demanded an ease, a big one, and grudgingly settled for the .25% cut in Fed funds.
Within days, a stream of new data said the economy was doing just fine on its own, thank you. All market interest rates rose, fast and hard, undoing any benefit from the Fed's ease, and embarassing the Fed.
The Fed doesn't like to be embarrassed. While its next move lies in deep cover, the data pattern now really is weak, and the Fed can ease. Bonds are anticipating one or more eases before year end, and they are probably right.
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