Fortunately for rates, but not for the real estate industry, New Home Sales came in far lower than anticipated. The market was looking for small increase in February at 980k to 1.000m. This would have been an improvement over January’s 937k. The actual number was 848,000 units. The Department of Commerce also revised downward January’s sales number to 882k.

This is the only major economic event on Monday. There are some Treasury auctions, but they will need to have a big surprise in demand either way to impact rates.

The New Home Sales number reversed the course of rates this morning. The 10-year Treasury is currently -0.036% with the rate at 4.575% [@11:00cdt {16:00gmt}]. The 10-year Treasury was as low as 4.563% which is -.048% from Friday’s close.

TOMORROW, 27 March 2007

Consumer Confidence is a market mover and will be released at 09:00cdt {14:00gmt}. Last month Consumer Confidence was 112.0. It is predicted to be lower for this month at 107.0 to 109.0. These predictions are probably good guesses, if not a bit high. We could have a good day.

[Publisher’s note: In an attempt to clean up our blog, we will post all three outlooks on Monday only. We will post an outlook on days when one is modified.]

SHORT-TERM OUTLOOK [26 March 2007]

This week could become a volatile one. The same holds true for the next few weeks. They could also be a couple of calm weeks. Economists sometimes have a knack for stating the obvious.

The international seen MAY overshadow the economic events of this week. On Friday, the Iranians captured 15 British Sailors and Marines. The Iranian capture of these 15 British was clearly an act of war. Even if the British had briefly been in Iranian water the normal procedure would have been for Iran to question then release them with a stern protest.

It is our opinion that this event has the potential to turn into an international crisis. If it does, the impact on world stability and peace is obvious. Let’s hope that the Iranian provocation does not escalate. At the same time, this blog is about economics and interest rates and we will examine this event with that in mind.

If the Iranians cause this to escalate the impact at the gas pump will be dramatic. It is possible that gas prices will spike about +$1.00 per gallon. The only silver lining will be the initial impact on rates as money makes a flight to safety. Rates could go as low as 4.000% on the 10-year Treasury. Again this assumes that the situation escalates.

That drop will last only a short time, 2 to 6 weeks. The increase in Energy costs will flow through and spark inflationary fears. Bond holders fear inflation more than they fear WW III.

Fortunately, the odds of WW III – or any escalation are low. We will know as the week goes on.  That is why this event only had a moderate influence on rates on the morning of Friday, 23 March 2007 (the 10-year Treasury was down -.02% at the opening). The Iranian event was quickly overwhelmed by a higher than expected Existing Home Sales in mid-Morning.

A similar situation occurred in 2004 and was soon resolved. Still, the Britt’s (and the world) are growing tired of Iranian obstinacies. That could move this even to the forefront. That would not happen until late in the week.

The end of the week could also see some economic activity. With the exception of Monday’s New Home Sales, and Tuesday’s Consumer Confidence, this week’s economic data will not get busy until Thursday, and to a greater degree, Friday. Even these two days are only somewhat busy.

Thursday is the final revision of 4^th quarter GDP and the Chain Deflator. The final revisions of either do not have a habit of moving rates.

Friday does see some important and heavy items. The market does open on Friday with Personal Income and Spending. In mid-morning the Chicago PMI and Construction Spending will share the spotlight.

MID-TERM OUTLOOK [22 March 2007]

Rates have been pretty good as we enter the last month of the 1^st Quarter. But we need to caution that they may not drop much further. That is, unless the 10-year Treasury goes below the 4.500% level for more than 5 trading sessions. That is the next “psychological floor”. The market has toyed with going below that level, but never for more than a few trading sessions.

There may be a problem for rates for the next quarter. IF homeowners start to see a rebound in housing – it appears that there is some small turn around – their confidence will increase. As confidence increases, so will spending. Economic growth is moderate now with problematic inflation. Strong growth could renew strong inflation.

The good news is the bond market’s trading in the last five weeks. It is apparent that bond investors are still of the mind that inflation is whipped, and-or the economy is slowing.

Bond investors and traders seem to grab on and hold any negative economic news. The bond market will still respond to inflationary news. But, they trade at a low level for a longer time when the news is bad for the economy.

The problem is the FED. They are not convinced that inflation is whipped. The commentary from FED official will be of concern for rates. We need to consider that when the FOMC minutes are released on 11 April 2007.

The majority of economists seem to see the FED on hold for the next few months. That could be good given that the bond market has a desire to keep long term rates below the FED-Funds rates.

Stephen Stanley, RBS Greenwich Capital was quoted in the Wall Street Journal, “The tweaks at the margin argue for less risk of a move in either direction. So the Fed is on hold for a while with a slight lean toward hiking, whereas the market has the Fed on hold for most of the year with a slight lean toward an ease late in the year.”

But there is still some concern for inflation. Bear Stearns Economics said in February, “If GDP growth continues above 3%, as we expect, and if core inflation pressures show any sign of creeping higher, this statement leaves the Fed flexibly positioned to raise rates before the middle of the year. If January data on employment and retail sales suggest that the economy continued at an above-trend pace, then Bernanke could adopt a more hawkish tone on Feb. 14 (when he delivers his semiannual testimony on monetary policy and the economy to Congress). Our expectations for the Fed's central tendency forecasts for 2007 are 2¾% to 3% on real GDP growth and 2% to 2¼% on core PCE price inflation.”

Regardless of what the FED does within its FOMC, the bond market will react to changes in inflation and economic growth. Joshua Shapiro, of MFR Inc. has an interesting theory, “Our own view is that unusually warm weather (IN JAN) has played a role in boosting activity…data will cool off as weather patterns (presumably) normalize. However, until this is borne out in the data, the Fed and markets will remain concerned about the effect that an upside growth surprise could have on inflation pressures.” The weather should bear watching.

It is our own view that the economy can still grow without impacting inflation. Energy costs – while still high – do not seem to have caused concern on Wall Street; at least not yet. Wages have grown – except at the lower end of the income scale. That has a way of keeping the lid on the wage-price spiral.

We have one great inflation fear in the mid-term; corn prices. With all the talk of alternate fuel and ethanol, corn futures have nearly doubled. That will impact not just corn flakes, but pop/soda, beef, and pig, just about anything we eat.

Commentary: Let’s eat food and burn oil.

LONG-TERM OUTLOOK [31 January 2007]

In the long-term, we may see some easing in the FED funds rates in late 2007.

Most economists tend to agree with Richard F. Moody of Mission Residential as do we. “We (Mission Residential) continue to hold to our view that no changes in the Fed funds rate are on tap for the first half of 2007 before what we expect to be below-trend GDP growth will open the door for two rate cuts over 2007's second half, but are increasingly open to the possibility that the FOMC could remain on hold for the remainder of 2007.”

The good news is still in the employment and production fronts. Both will conspire against each other to keep inflation low.

Steve Boxmeyer [612] 799 – 6858
steve@LendWithIntegrity.com