Rate Hikes and Uncertainty for the Holidays!

Peter Gallagher, Princeton Mortgage Wholesale


The big news in the mortgage industry this week was that the Fed stuck to their plan and increased interest rates for the fourth time in 2018. We’ve seen rate hikes in this past March, June and September already, and despite efforts to delay the Federal Open Markets Committee decision they have elected to raise the targeted rate range from 2.25% up to 2.5%.


The main factors that came in to play when making this decision were a labor market that is continuing to grow stronger and economic activity has been rising as a consistent rate. Unemployment has remained relatively low and spending per household has steadily risen. Both the inflation of the dollar and the price for items have stayed consistently around 2%, and projections for the foreseeable future expect little change or variance if any.


Previously it was expected that the Fed would look to increase the rate three times in 2019, however now the consensus seems to be two hikes is much more realistic. Some experts were questioning if we would have this December rate hike at all, based on metrics that displayed the economy may not remain consistent in its strength. These concerns are valid based on the behavior of the 2, 3, 5, and 10-year treasury bonds.

NOW IT GETS INTERESTING.


In the first week of December the 3-year and 5-year treasury bonds inverted for the first time since 2007 (followed by the 3-year also surpassing the 10-year). In short, this means the Fed places a higher value on debt coming due in three years versus five or ten. That is NOT a good sign for our long-term economic health. The value of debt held by debtors will be less valuable down the line, and more valuable sooner. On average, it takes about 26 months after the 3-year and the 5-year flip for a recession to begin.


Today in fact, the 2-year rate has surpassed the 5-year rate as well. While the 3-year has returned to lower rates than the 5-year, the 2-year and 10-year inversion has been the true indicator of recession since World War Two. There are only 14 basis points separating the 2-year and the 10-year today. If we have these economic signs showing us our potential upcoming recession, why isn’t the Fed focused on these factors? It seems they are much more focused on factors that express the current rate of our economy (employment, household spending) rather than future economic state indicators.


Regardless, we must play with the cards we are dealt. Hopefully unemployment stays low, spending stays high, and history does not repeat itself like it did in 1990, 2001, or 2007!


Until next week,

Peter

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