May 092017

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By G. Steven Bray

Interest rates continue to drift slowly higher as the Xanax kicks in on the markets. The French election outcome provided confidence the European Union won’t take any more hits in the short term, and the health care vote in Congress eased concerns about the Trump agenda. Rates have returned to their post-election range looking for a source of inspiration.

A possible source is the Federal Reserve. Fed governors, through public speeches, have signaled more hikes of short-term rates are likely this year, and an increasingly loud chorus is suggesting the Fed will start to unwind its monstrous bond portfolio. I think the former is pretty much baked into current rates, but the latter could shoot rates higher.

A countervailing force may be recent economic data that showed inflation, particularly wage inflation, is subsiding again. The jobs report last week bested expectations, but the wage data suggests the jobs added may be lower paying ones. While I don’t expect the Fed will see this data as a reason to hold back rate hikes, this may give it pause concerning its bond portfolio, and words of caution may creep back into the Fed’s vocabulary. While I doubt this would be enough to spark another bond rally, these factors could contain rates within their current range.

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