The Physics Behind Interest Rate Cuts – The Fed finished its 8th and final interest rate decision of 2023 this week. As predicted, they left rates unchanged and projected as many as 3 cuts next year. While the Fed did not clue us in to when exactly these cuts will take place, we can infer that they will follow the ‘guidelines of inertia.’ An object in motion will stay in motion (or at rest) unless acted on by a force. You can think of inflation as an object in motion and the Fed Funds Rate as the force that impacts that motion. A general guideline/rule for the Fed is they want to see a gradual increase/decrease of rates to check inflation – or follow the ‘Inertial Rule’, where the Fed is gradually moving rates towards a certain level. If the Fed hiked rates 5% in one fell swoop, it would devastate financial markets and the broader economy. Occasionally the Fed will make important noninertial changes in response to serious challenges such as the great recession in 2008 or the onset of the pandemic in 2020. As we continue to see inflation tick down, we anticipate the Fed to follow the Inertial Rule and gradually lower interest rates, one step at a time.
Mortgage Rates – improved again this week as the price of Mortgaged Backed Securities (MBS) have continually increased since early October. Rates are up 0.5% from this time last year.
Freight – the Case Freight Index showed shipments declined 4.7% in October, reversing the previous two months of gains and reaching a new cycle low. This time of the year is typically the beginning of peak season, and this report indicates a weakening economy.
Inflation – the Producer Price Index showed inflation was flat in November and is up only 0.9% year over year. The core rate (which strips out food and energy) also remained flat and is up 2% year over year.
The Consumer Price Index showed that overall inflation rose 0.1% in November and is up 3.1% year over year (a slight moderation from last months’ reading of 3.2%). The core rate, which strips out food and energy, remained at a 4% year over year increase.
Mortgage Applications to purchase homes increased 4% last week and are down 18% year over year. Refinances rose 19% and are up 27% year over year (an increase from very low levels).