Current Trend Direction: Sideways - top of range

Advise your Clients: Very Cautiously Floating as Bonds form Double Top

Current Price of FNMA 3.5% Bond: $101.91, +38bp

It's all about Europe, as US Bonds – including Mortgage Bonds – receive a safe haven bid on existing and growing fears that Europe's debt crisis is coming to a head…and global growth, which is already anemic, is being threatened further.  

Even hot consumer inflation hasn't stopped Bonds from their winning ways so far today.  The  headline Consumer Price Index (CPI) came in at a whopping 0.5% for the month, well above expectations of a 0.2% rise and leaving Consumer prices up a steamy 3.6% year over year, when factoring in food and energy prices.  The more closely watched Core CPI, which strips out food and energy costs, rose by 0.2%, inline with expectations, leaving the year over year Core CPI rate at 1.8%, up from the prior month’s reading of 1.6%.

Seeing Bonds dismiss this inflation number tells us the Bond market senses that the economy, which is already hardly growing, is in a very vulnerable position with things in Europe uncertain and gloomy at best.  And when the situation deteriorates further, it may push many world economies into a recession.  Not helping the situation was the Merkel/Sarkozy meeting bringing no concrete solution to the debt problems, including dismissing any notion of a EuroBond.

And our Fed can't do much right now.  Lower rates and more liquidity will not help this economy further.  There is plenty of money to lend, but the "velocity of money", the rate at which money is spent or lent, is as Fed President Richard "Loose Lips" Fisher said, "in a coma" …meaning that everyone is sitting on their hands and/or money, neither spending nor lending.  

We need leadership out of Washington to help lift uncertainty.  We need a resolution to the debt crisis to get Moody's off our back, as they have said that their downgrade to the US is coming if the super committee doesn't come up with a valid debt reduction plan.  We need policies put in place to give small businesses and entrepreneurs a reason to invest, spend and grow…something we have not done in years.  And Congress taking an extended vacation amidst this difficult period is not helping the Average Joe feel confident about the direction of our economy.

We will get through this difficult period, as our great country always finds a way.  But there may be some more difficult and volatile times ahead.

In talking with clients - there are a couple of "D" words we need to consider -  double dip and double top.  Fundamentally - Bonds are rising on fear, uncertainty and threat of a "double-dip" recession.  We don't see a double dip recession coming, unless the Europe situation goes from bad to even worse.  Technically, we still need to be mindful of the charts.  And the recent rise in prices has Bonds reclaiming all of last week's losses sparked by the awful 30-year Bond auction last week...and boy, have things changed. 

Prices are now trading right at resistance marked by last week's price highs - forming a potential "double-top.”  Last week when investors bought Bonds at these levels, the Bond market crumbled and a lot of folks were in the negative - until now.  Human nature tells us that people just want to break even, so those that were losing money last week and are now even, may look to sell and save themselves.  And if Sue sells, Patcho sells and others sell as well…it could create a cascade of selling, and prices could move lower.

Bottom line - the fear and uncertainty right now is pretty overwhelming, which is supporting Bonds.  But let's not Float and go on vacation.  Have clients understand Bonds are at “nose bleed levels” and sentiment can change very quickly - just point out what happened last week when investors pulled away from the 30-Year Bond auction, and sent prices tumbling.