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Reduced Demand for Bonds Means Higher Rates

January 10, 2018

 

Overview: Despite weaker than expected labor market data, it was a tough week for mortgage rates. Investors have favored stocks over bonds so far this year, and China said that it may reduce its U.S. bond purchases. As a result, mortgage rates ended the week higher.

The U.S. stock market began the year with its strongest start in decades. However, the high demand for stocks has reduced the current demand for bonds, including mortgage-backed securities (MBS). In addition, a report released on Wednesday said that Chinese officials are considering scaling back or stopping their purchases of U.S. bonds in response to trade tensions with the U.S. This caused investors to become concerned about the potential for less demand in the future. Since mortgage rates are set based on MBS prices, lower demand for MBS is negative for mortgage rates.

 

The U.S. economy added just 148,000 jobs in December, below the consensus for an increase of 190,000. Despite the downside miss, however, the economy added over two million jobs in 2017. The unemployment rate remained at 4.1%, the lowest level since 2000. Wages were 2.5% higher than a year ago, up from an annual rate of 2.4% last month. Since slower growth reduces the outlook for future inflation, the weaker than expected data on job gains was positive for mortgage rates, offsetting a small portion of the increase seen over the past week. 
 
Week Ahead 

Looking ahead, the Retail Sales report and core Consumer Price Index (CPI) will be released on Friday. Consumer spending accounts for about 70% of economic activity in the U.S., and the retail sales data is a key indicator. CPI is a widely followed monthly inflation report that looks at the price change for goods and services. The New Residential Construction report (also known as Housing Starts) will come out on January 18. In addition, investors will be looking for additional news about China's bond purchasing plans.

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