It's Still A Low Rate World--Sort Of
I have to thank Barry Ritholtz, of the Big Picture for his nice post entitled Breaking the Business Week Cover Curse?. He was referring to the February cover story “It’s A Low, Low, Low, Low-Rate World”, written by myself and David Henry. At the time, Barry warned that the BusinessWeek cover was a sign that interest rates were going to rise (what he called “The Magazine Cover Indicator”)—a contrarian indicator.
In his new post, Barry is willing to admit that at least so far, the cover curse does not seem to be working. He writes:
However, as the chart nearby shows, Yield on the 10 year has since plummeted. Have Michael Mandel and David Henry broken the “Curse of the Magazine Cover?”
It appears they have. The dominant theme of that February 19, 2007 remains intact: After some volatility, Rates have trended lower. We can quibble about the actual article content, which wasn’t exactly forecasting a major economic slowdown or recession — the likely cause of the current flight to bonds.
However, the key point — rates are low, and likely to stay that way — strongly suggests that cover failed as an indicator in this instance.
I thank Barry for his good words. The truth is, though, I’m still not willing to claim victory. First, not all interest rates are down since we wrote the cover. Here is a table of selected rates.
|Where Rates Have or Haven’t Fallen|
|15-year fixed rate mortgage||6.02||5.88|
|High Grade Industrial Corporate*||5.42||5.04|
|Medium Grade Phone*||6.38||6.32|
|High Yield Capital Goods*||8.01||8.72|
|* Yield to maturity, based on Merrill Lynch Bond Indices|
|Data: Bloomberg, Merrill Lynch|
Government long rates are down, obviously, since the story came out on February 8th. High-grade nonfinancial debt is doing fine. High-yield securities have seen a rise in rates, with the amount depending on the sector. Oddly enough, prime mortgage rates are down, though that won’t last with the pressure on Fannie and Freddie. Subprime and jumbo mortgage rates (not on the table) are up.
My sense is that as the damage spreads in the consumer lending sector, that mortgage rates, auto rates, and credit card rates will soon rise. But the Federal government and nonfinancial corporations will still be able to borrow at quite favorable rates.
In other words, we are seeing a financial crisis mainly targeted on consumer lending. That’s why the U.S. is going to be hit by a “consumer crunch”.
But really, we won’t be able to tell whether the low-rate thesis in the story is correct until after the crisis passes. Here’s what we wrote in the story:
The shift to a low-rate world doesn’t mean lower volatility. In fact, excesses, crack-ups, and bad investments are not only possible but guaranteed. “Over the next several years there’s likely to be some event that will widen out the spreads,” says Zane Brown, director of fixed income at mutual fund manager Lord, Abbett & Co. But when the dust has cleared, he says, the world economy will likely be left with a lower cost of capital than the average over the past 5 to 10 years.
It is going to take some time until the dust has cleared.