Capital Markets Update

By Louis S. Barnes                                    Friday, March 6, 2015

Brace thyself.

Mortgage rates are above 4.00% for the first time since December, taken up by an overnight rout in the 10-year T-note (and a lot of other markets). 10s last night were hanging on to chart support at 2.11%, and are now 2.25%.

As always here, take it one piece at a time. First of all, the dive in 10s from 2.35% at Christmas to 1.65% in early February — one-third in six weeks! — was a tad peculiar. Most of us thought the cause was exceedingly low yields overseas, and every major central bank trying to devalue its currency versus the dollar. I still believe that, and believe foreign conditions are a strong counterweight to Fed tightening. The Fed thinks so, too, which may force it to tighten harder, right or wrong.

Charts aside, the overnight driver was an up-side surprise in February payrolls, another 295,000 jobs. Despite claims of a “strong” report and violent market reaction, the thing is shot full of holes. One-third of the jobs were hospitality and retail, protected from foreign competition, but dead-end, unstable, and poor-paying. Average hourly earnings rose $0.03, 0.01% for the month and decelerated to 2.0% year over year. More people at work even at lousy wages means more national income, but at this rate of change, increasing inflation is impossible.

Trading in every market today says they are worried about the Fed, not inflation. Every market has interpreted the February job data as conclusive impetus to fed tightening. Every market has been slow to take the Fed at its word, day after day for many months that it is aching to lift off from 0%. Six years-plus at 0%, every Fed economic forecast wrong on the happy side, disbelief has been good business.

The stock market usually rises on good economic news. This winter it began to counter-trade. Good news means the Fed is comin’, so sell. Midday today, the Dow is off 238 and looks worse.

The currency complex confirms. The ECB next week begins $60 billion per month QE, flooding the world with euros, last-ditch uber-easing. The Fed is about to tighten. Hence the euro just this morning lost 2% of its value, trading at $1.08, the lowest in 13 years. QE helps economies three ways (Wonder Bread helps 12 ways): portfolio effect, pushing investors to take risk, a silly thing to do in Europe; forcing down long-term rates, which in Europe are already down, in Germany below zero beyond 7-year maturities; and weaken your currency. ECB QE will bring only the last, a euro weak enough to help Club Med (absurdly low for Germany).

Currencies are odd stuff. A low euro does not help versus any other country also devaluing, which every competitor has except China, which will soon be forced to, and except the US. The US is in then position of Club Med at the outset of the euro. In part we feel rich: everything we buy from overseas has gotten cheaper. But that’s a hollow and fleeting victory. The wage component of everything produced overseas — goods and services — has fallen in value, pushing down on US wages. Zero-sum is in play: