Mar 062017

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By G. Steven Bray

Interest rates moved back to the high end of their recent range last week, but this time they may not be moving lower real soon. The move higher was in reaction to statements from Fed governors that suggest it’s all but certain the Fed will hike short-term rates at its meeting next week.

As we’ve discussed in the past, the Fed sets very short-term rates, and just because those rates rise doesn’t mean longer-term rates, like mortgage rates, will rise. However, when the Fed hikes rates, it creates some momentum that filters up the rate curve, at least temporarily. In addition, a rate hike suggests the Fed thinks the economy continues to recover, which supports higher rates.

Once we get out of the shadow of the Fed meeting, mortgage rates are more likely to return focus to the prospects for inflation and geopolitical uncertainties for inspiration. Recent inflation data, while still tame, has ticked up just a tad. If inflation measures maintain a positive slope, nervous investors could push rates up quickly.

With respect to the latter source of inspiration, the French presidential election is just around the corner, and the disrupter candidate Le Pen leads in recent polls. A Le Pen victory in the first round of balloting could give markets temporary heartburn, which should be positive for rates.

I have one wildcard this week. The Fed has a huge portfolio of mortgage bonds. While the Fed isn’t adding to this portfolio anymore, it is using the proceeds from mortgages that pay off to purchase new ones to the tune of about $8 billion a week. When the Fed stops these reinvestments, the concern is it will take higher interest rates to clear the market. Any hint of a timeline for this tapering emanating from the Fed meeting could push rates up.

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