Final 4th quarter GDP came in at 2.1% leaving the 2016 growth rate at 1.6%. The Atlanta District of the Federal Reserve is predicting less than 1% growth for the 1st quarter of 2017. That is not good. Despite this, the Board of Governors of the Federal Reserve in Washington has begun raising short-term interest rates, citing indications of a stronger economy ahead. However, the yield curve (which plots the interest rates of bonds maturing from now to 30 years out) is telling a different story. While the short term rates on CD’s and money market rates move with the Fed’s decisions, the interest rate on the 10-year Treasury bond is very important and is driven by real-world activity. This is the one to watch. Mortgage rates and other important benchmarks key off of this rate more than the Fed’s position on short-term rates. The interest rate on the 10-year Treasury bond has risen from a very low 1.4% about a year ago to 2.6% in the past month (remember, the current price of a bond goes up when the interest rate goes down and vice versa). However, the interest rate on the 10-year Treasury bond has started to stall and may well roll over and head back down … not an encouraging sign for increasing economic activity (but good for the current price of many bonds). Long-term interest rates typically rise with stronger economic activity, but they are lagging. The yield curve showing longer term interest rates vs. short term rates remains somewhat flat.
The stock market still sees things differently. Stock prices have risen despite years of disappointing earnings (see below “5/16/16: Is Fair Value Obsolete?” ). President Trump’s election has further boosted stock prices due to a hopefully optimistic outlook.
A great deal depends on the effectiveness of our new President’s economic policies and whether they will be implemented or not. While the stock market may be optimistic, the bond market has not been so inclined to follow suit at this time. Should the economy continue on its slow growth path similar to the last 8 years or so, interest rates may stay low (or even go lower) perhaps, making bonds a safer place to invest (remember, the current price of bonds goes up when interest rates go down and vice versa). Interest rates going lower when they are already near historic lows seems implausible but possible.