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June 27, 2003
Mortgage and other long-term rates jumped after the Fed's quarter-point cut in the overnight cost of money to 1.00%.
The damage to mortgages was not as bad (from 5.25% to 5.50%) as to Treasuries (the ten-year from 3.09% two weeks ago to 3.59% today); but mortgage trading was chaotic, as one national wholesaler raised its rates four times in eight business hours over Wednesday night. Freddie Mac and other time-lagged surveys won't discover the rate-rise "news" until next week, but it's real, right now.
All this over dashed hopes for a half-percent cut to .75% for Fed funds?
There are more serious things going on.
The trouble came in the statement accompanying the rate cut. I think the Fed would have gotten the same negative market reaction if it had cut a half, but used the same press release. The response was plain on-screen: in the minutes after "Fed Cuts .25%" popped on CRTs world-wide, the bond market hardly wiggled; it didn't blow up until a half-hour later, the time it took to deconstruct the release.
Since last November, the Fed has insisted that it has great power remaining beyond its now-exhausted ability to cut short-term rates. Specifically, it could drive down long-term rates, buying bonds if necessary. The Fed leaked and leaked about other "unconventional" policy options: to promise not to raise its rate until inflation rises to a target, or to pledge not to raise its rate for a specific time span.
Since early May, Mr. Greenspan has spoken plainly and often of the need for "insurance" and a "firebreak" against economic weakness. This easing-by-jawbone was understood everywhere to mean that the Fed wanted the market to buy bonds and bid down long-term rates, and that it was safe to do so. This Smilin' Alan routine ignited a huge rally in bonds and mortgages.
Now, this statement. Economic risks are "balanced", and the "predominant concern" remains the "minor" probability of an "unwelcome sustained fall in inflation." The concluding kicker, and bond-market wrecker: this concern would predominate for the "foreseeable future."
Every bond trader on the planet knows the foreseeable future for the Fed lasts until the next release of economic data -- in this case, the June ISM report on July 1st, and June payrolls on July 3rd. The Fed's statement contains nothing of Smilin' Alan's charm offensive -- not a shred of unconventional assurance to the long end.
Bond traders take many painful things in stride, but not the sense of being had. Not by each other, and especially not by the Fed. People are disgusted and angry, reminded that the Fed can be trusted to do only one thing: to reverse its policy on a dime any time it thinks it should.
So, it's the economy, stupid. The steady (if shallow) decline in jobless claims suggests the economy is stabilizing, but I can't find evidence of the much-hoped-for 3%-5% GDP growth. Neither can Robert Parry, President of the San Francisco Fed, an old inflation hawk, who can see tech wreckage and disastrous state finances out his window. Mr. Parry dissented at the Fed's meeting, voting for a .50% rate cut.
Little tidbits... the fewest new auto registrations in May in five years... consumer confidence sagged in June... commercial bank loans fell at a 14% annual clip in May... the insider sell:buy ratio for REITs was 24:1 in the 1st quarter, and not a single insider-buyer has reported to the SEC in the 2nd quarter... housing is doing fine, but driven by huge population growth, not a better economy.
Still, if next week's June data show the beginnings of a sustainable recovery, there will be a great many bond investors headed for the same, small exit, pursued by a horde of boat-missing refinancers.
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