GETTING HIT ON INTEREST
INTEREST rates will move higher for a few more weeks before the upward pressure eases a bit.
Unless . . . (in the tradition of “The Sopranos” creator, David Chase, I will finish this thought at the end of the column – or then again, maybe I won’t.)
I’ve been saying since the beginning of the year that interest rates were probably going to rise this spring, which was a prediction that went completely contrary to Wall Street’s prevailing view.
“Interest rates are likely to rise this spring,” I wrote in an April 10 column. “So if you are thinking of investing in bonds, don’t, because they will decline in value.”
Bond and note prices in case you didn’t know it, move in the opposite direction of interest rates.
The biggest news this week has been that the U.S. government’s 10-year note not only surpassed the significant 5 percent level but went, spectacularly, all the way up to a five-year high of 5.248 percent on Tuesday.
On April 10 – the day of the column – the yield was only 4.71 percent.
So you could have borrowed money 10.5 percent more cheaply back on April 10. And if you didn’t heed my warning and did invest in bonds (and notes) you’d have a 3.2 percent loss right now.
So what’s going on?
Wall Street has been working under the assumption that the U.S. economy would slow and that, as is typical, interest rates would drop because demand for borrowing would taper off.
And business has indeed slowed.
The last report of the nation’s economy, the gross domestic product, barely showed any improvement. And companies such as Texas Instrumentsare giving people the willies that this current quarter’s growth will be equally anemic or worse.
But, as I said above, interest rates went in the wrong direction – up, not down. Why was Wall Street so wrong?
One of the biggest problems has been the monthly report on employment from the government. While all the other economic indicators have been pointing to a continued slowdown, the employment report for May was stronger than expected with 157,000 new jobs.
I won’t get into it here again but the employment report from the government is deceptive because of assumptions Washington makes about jobs being created by new companies that it can’t survey. (It’s called the birth/death ratio by the Labor Department.)
Still, the employment survey is the granddaddy of all the government statistics and has great influence over both the stock and bond markets.
And that’s one reason why interest rates rose, and why I think they will rise some more.
Unless the economy is completely tanking, the employment numbers should remain strong for one more month thanks to statistical sleight of hand caused by the birth/death ratio.
Let me explain.
The government reported a gain of 157,000 jobs in May.
But if it weren’t for the fact that Washington assumed 201,000 jobs were created by small businesses it couldn’t survey, the monthly figure would have shown a loss of jobs.
And that would have jibed with all the other reports showing a weak economy.
The government won’t report June job growth for a couple of weeks.
But last June the Labor Department assumed that small companies created 166,000 new jobs it couldn’t count.
Unless the economy is doing abysmally and real companies aren’t hiring real people, the government’s guess of 166,000 (or so) new small company jobs should produce a decent monthly report.
And that’ll inspire interest rates to move even higher.
But then the statistical glitch ends for a month. The government doesn’t plug in many of these mysterious small company jobs in the July report that will come out in early August.
That’s why I think interest rates could back off in the middle of summer, although probably not significantly and from levels much higher than today’s.
Now for the David Chase ending – everything I said above is contingent on the cooperation of some foreign governments.
Interest rates are rising overseas and will likely continue to climb in Europe and maybe even Asia.
With the world getting smaller every day, that’ll automatically put pressure for interest rates here to rise so we can attract investments here.
But an even worse conclusion to this series would be if China or Japan or OPEC decided to play the villain and pull sizeable amounts of money out of the U.S. Treasury bond and note market.
A recent U.S. Treasury report showed Asians sold $6.55 billion worth of our securities in March alone. And if that trend continues, all bets about future interest rates are off.