Depending on how long you’ve been watching market movements and keeping track of changes in mortgage rates, you may be well-acquainted with the general tendency for weaker economic data to coincide with lower interest rates. In the past, this was a much more linear relationship, but it’s been thrown on its ear for quite some time now, but especially after the onset of the most recent bout of Euro zone collapse fears beginning in the second half of 2011. It’s not that economic data hasn’t moved markets in logical ways since then, simply that anyone expecting it to do so in line with past precedent now runs an increased risk of being disappointed.
We’ve tried our best to sort through what’s important and what’s not, even as that continues to change. You may have noticed a ramp up in the focus on Employment data Non-Employment data over the past few months. This was due to the Fed laying out employment as the critical benchmark to further QE. The notion of further QE, we argued, would move markets MUCH more than the notion that economic data somehow spoke to improving or degrading economic fundamentals. In other words, markets moved on from reacting to the fundamental suggestions of data (i.e. “what does this report suggest about the direction of the broader economy?”) and began reacting to what data suggested as the probable course of Fed action (i.e. “does this data increase or decrease the likelihood of further quantitative easing?”).
Now that QE3 has arrived, and especially because it is open-ended, the adjustment in how we process economic data is fairly simple: “what does this economic data do to the expected timeline of QE3?” In other words, the Fed will discontinue the recently begun MBS buying when “stuff” gets “a little bit better than good enough.” The fed has been clear in defining “stuff” as JOBS, and they’ve also been clear in saying they won’t discontinue prematurely. All of the above is one possible explanation for bond markets being weaker today.
In the past, the stronger-than-expected Jobless Claims numbers would have been trumped by the unexpected weakness in Durables. But the Claims data is the most relevant to the QE3 outlook. The extent to which this accounts for the paradoxical response to the rest of the data is something we can only guess at. Certainly, there are other good reasons that bond markets would be weaker this morning, so much so, in fact, that we warned against a pull-back last night for the first time in two weeks (here) and even going so far as to say “we might have our first down day in several weeks” earlier this morning.
The rest of the story on this morning’s weakness is in the 9:29am Alert below. It’s a good read if you have time, but keep in mind that even without data, today looked like a good day for a pull-back. In other words, we’re not reading too terribly much into the connection between the data and the movement in MBS, but wanted to offer a logical way to reconcile the seeming paradox. Even then, we’re not faring too poorly as far as pull-backs go, and certainly aren’t guaranteed to end the day in the red. It’s still anyone’s game, but a bit of consolidation here makes sense, both due to what appeared to be some exhaustion yesterday in the MBS rally as well as the recent bullish trends in Treasuries reaching their bullish target. Here’s a chart of that since we’ve spoken about it a few times (we actually charted this last week, and these are the same trendlines from that chart. Even if the lower line doesn’t cause a perfect bounce, it’s definitely caused a pause for consideration of such things):