Some things never change

Treasury yields have been inching up the past couple of months and have become a main focus among investors. First, rising over the uncertainty around tariffs, but that has calmed down.  Now we are under pressure because of diminishing optimism that a balanced budget will be attainable. This comes as the new tax & spending bill is being deliberated in Congress and analysts say it will cause deficits to continue to rise. Resulting in Moody’s downgrading the credit rating for US treasuries a week ago.

This reminds me of summer 2023. I remember it clearly because I was on vacation in Italy when Fitch downgraded the US credit rating then. The downgrade came because we were also facing a budget ceiling that needed to be raised. Fitch stated at the time that they did it because of the deterioration of governance for the past 20 years. Rates peaked in October 2023 before starting to improve. I reread the weekly update from that time period, and it sounds like it could have just as easily written today.

Deficits and interest rates

The federal deficit is funded by the sale of Treasury’s which play a major role in determining borrowing costs across the economy, including mortgages. The government will need to sell more bonds to cover the deficit between spending and revenue. This means sustained higher rates as they must offer higher yields(rates) to investors to absorb the growing supply of debt. 

‘The size of recent budget deficits is alarming for investors because they are happening while the economy is strong, rather than in a recession. During recession tax revenues drop the government spends more to revive growth and help the unemployed’. -Wall Street Journal

Confirming this sentiment, the 20-year bond auction on Wednesday pushed rates higher as the auction had weak demand and was rated a -C. 

The path ahead is still unclear

Someone said in a post on X this week (sorry I can’t remember who to credit)- Market mood currently is being defined less by conviction and more by risk management.

Yes, questions remain- Will the tariff and tax reforms cause an increase in revenue and economic expansion or will tariffs slow down the economy leading to recession and the need for more government spending? It may be some time before we have answers, most seem to be leaning towards the latter right now. How investors foresee this playing out will continue to drive the direction for rates.

What’s ahead

This week we get a second look at 1^st quarter GDP with revisions, the minutes from the last Fed meeting, and the PCE inflation reading on Friday. The ‘big, beautiful bill’ and tariff news though will continue to be the focus. 

This morning some relief as consumer confidence rose nicely from its rock bottom April reading and that is helping our positions today. We continue our dance with the 7% mortgage rate. Zooming out, this is the middle of the rate channel since 2022 as we have tested highs near 8% and lows near 6%. We’ve been here before and we know the drill.