Impasse Continues While Durables Orders Slide

 Impasse Continues While Durables Orders Slide - 7/27/11

There was no progress at all in Washington yesterday; if anything the results could actually be described as a backslide. Markets didn’t really care, as pricing on most assets, including mortgages and Treasuries, improved, essentially erasing Monday’s loses. Housing data and a rise in consumer confidence, which would have ordinarily pressured rates were largely ignored. The auction of 2-year notes went remarkably well, considering the status of the debt debate.

 This morning, our lone significant data point was durable goods orders, which surprised markets by falling 2.1% versus a predicted rise. While this report is often of little impact, the size and direction of the miss was not ignored. Rates had been trending higher, prior to the report, and this relieved significant pressure. Later this afternoon, the Fed will release its Beige Book, so called for the color of paper used on its cover. This release contains anecdotal information about the state of the economy from the Fed’s 12 regional banks. At 1:00 PM Treasury will issue $35 billion in new 5-year notes, which could test markets, but is likely to go smoothly unless news comes from Washington prior.

 The focal point of the divide between the Republicans in Congress and the White House is the size of the debt limit increase. The President doesn’t want to have to deal with bumping against that limit again until after the election. House Republicans want precisely that outcome, as they believe it will be beneficial to them in the campaign. The probability that the battle will result in a downgrade of the US’ credit rating has now risen to 60%. Several proposals have been floated and tabled in the last few days, and the most recent offer from Speaker Boehner was just returned to sender by the Congressional Budget Office, which pointed out that the proposed savings didn’t meet expectations, as the plan would only save $850 billion in future spending, versus the $1.2 trillion the speaker had professed. The plan would have increased the debt limit by $900 billion, which means that the plan didn’t meet with Boehner’s own promise to cut spending at least as much as the limit was increased.

 Some are discussing the impact of a US debt downgrade, saying that the rating may already be artificially high, and also that a decline in the rating would also cause agencies to reexamine ratings on debt from Germany, France and the UK. Some are wondering if a downgrade to the debt would even meaningfully move yields. I suspect we’ll find out soon. While the downgrade might not do much, a default certainly would. With 5 days to go before the government runs out of money, there isn’t long to wait.

Rate lock recommendations, by time to loan funding:

 <15 days: lock

15-30 days: lock

30-45 days: consider locking

45+ days: consider floating

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