photo by Gage Skidmore
If you were thinking of buying a home or refinancing a mortgage before the U.S. presidential election but did not get around to it, there is a pretty good chance your procrastination is going to cost you some bucks.
After an election-night swoon triggered by the shock of Donald Trump’s ascendancy, most American equities have rallied nicely, largely on the premise that Trump and his fellow Republicans in control of Congress will be in a position to reform (read: cut) taxes and reduce regulatory burdens.
But bond markets that also fell into the tank on election night have stayed there and pretty much just kept sinking. Bond prices fell steadily and sharply through the first week of the Trump transition. When bond prices fall, the yield automatically rises. The yield on 10-year Treasury bonds reached 2.20 percent this week, the highest level since last December, which not coincidentally is when the Federal Reserve raised interest rates for the first time in many years with the promise of more hikes to come this year. (They haven’t come yet, but read on.) The 10-year rate has been as low as 1.36 percent this year and was hovering around 1.80 percent when we went to the polls on Nov. 8. That 40-basis-point move in just a week or so is a sharp jump in the context of the bond market.
Quit yawning. Admittedly, most short-term movements in the bond market are interesting primarily to bond traders and the people who love them. But the 10-year Treasury rate is widely used by lenders when they set rates on fixed-rate mortgages. If you’re wondering why they don’t rely on the 30-year Treasury rate instead (which also has jumped since Trump won the election), it is mainly because most mortgages are paid off long before they approach 30 years old.
Sure enough, Bloomberg reported this week that mortgage rates have just made their biggest three-day jump since November 2009. If rates stay at current levels, this is probably just the first installment of a significant increase. That initial move was only 4 basis points, taking average rates in the survey up to 3.73 percent. Still, rates remain close to historic lows, so I wouldn’t get overly upset about the movement; I just would not be inclined to dilly-dally much longer before filling out that loan application.
Rates on two-year Treasury notes have followed a similar post-election path, going above 1 percent for the first time this year (after a low of 0.56 percent). The two-year rate is influential in setting rates for adjustable-rate mortgages, although other benchmarks also are widely used.
Those other benchmarks are also rising, even far from American shores. Germany’s 10-year rate had been in negative territory most of the summer; it reached a dizzying 0.30 percent this week. In Japan, where monetary authorities have been desperate to reanimate a comatose economy, the central bank surprised markets yesterday with a plan to buy unlimited quantities of government bonds at fixed rates. The signal to bond traders was: No need to sell bonds, because we’ll just keep buying them to support the price.
This kind of intervention usually does not work for very long, and there is a good chance it won’t work for Japan’s central bank this time, either. If Japanese traders think local interest rates are going to be held down while U.S. rates could keep rising, there is only one thing that will stop them from selling Japan’s debt and buying ours. That would be a fear that the U.S. dollar will weaken against their home currency, the yen. But demand for dollars is pushing currencies the other direction, with the dollar strengthening since Trump’s victory. This week it was about $1.06 for the euro – the cheapest price for the euro in years – and 109 yen, up from around 100 most of this year.
Meanwhile, we need to wait a few more weeks to see if the Federal Reserve will go ahead with its long-telegraphed plans to raise rates once again next month. Higher rates mean a stronger dollar, and a stronger dollar means less inflation, which the Fed has been trying to boost. So the currency markets are pushing back against a rate hike. But in many respects, a rate boost now would just mean the Fed is catching up to what has already happened in the marketplace, while a sudden change of course could destroy whatever remains of Fed chief Janet Yellen’s credibility. So my guess is that the Fed will do exactly what it did last year, which was to make a move in December and then take a nice long break to see what happens.
There is a pretty good case to be made that all this activity in the markets is just an overreaction to Trump’s ascendancy. The theory behind the market movements is that Trump will go ahead with his campaign calls for massive spending on infrastructure while sharply cutting taxes, all of which could swell federal deficits and stoke inflation. Higher inflation means higher interest rates, and the markets seem to be trying to get ahead of the curve.
However, like any president, Trump does not control either federal spending or tax policy on his own. He has to work through Congress, which is dominated by Republicans who like his tax cuts but are skeptical of big spending programs and higher federal debt. (Democrats are making common cause with Trump by hinting they might help him get those spending bills passed, in the hope that this will buy them some of the president-elect’s working-class support in the 2018 midterm elections). Unlike past presidents who began their terms with strong fiscal stimulus, notably Ronald Reagan and Barack Obama, Trump will be taking office with unemployment holding at low levels.
Trump is going to need more labor to build all those roads, bridges and other public works he’s talking about, even if Congress gives him the money. Where will it come from? The only obvious sources are people who are already so discouraged they have dropped out of the labor force (probably where the president-elect thinks he might find it) or immigrants. Let’s not even go down the immigration road today; suffice to say it’s going to take time for Trump and Congress to agree on a plan to bring new labor into America in an orderly way. If they ever do, that is, which is a very open question.
What we know in the meantime is that the president-elect, who built his fortune using borrowed money, has triggered at least a temporary rise in the cost of borrowing money, even though he is months away from taking office. Markets are sometimes wrong, but they are often right in forecasting the future. If you need to borrow some money yourself, it may not pay to wait.
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