Inflation Climbs

Concerns about the pace of global economic growth continued to drive financial markets, causing investors to shift to less risky assets. This trend was favorable for mortgage rates, which ended the week lower.

Debt troubles in Europe, worries about the health of European banks, and weaker than expected economic data in the US have contributed to an outlook for slower global economic growth. The reaction from investors has been to shift from riskier assets such as stocks to relatively safer assets such as gold and bonds. Despite the S&P downgrade of US debt, US government-guaranteed bonds, including mortgage-backed securities (MBS), have been a primary safe haven for investors. During the week, 10-yr Treasury yields reached a low below 2.00% for the first time since 1945, and MBS prices climbed to new highs.

At these levels, though, it may be difficult for yields to move much lower.

Adding to the concerns of investors, the economic data released this week showed that inflation rose faster than expected in July. The July Consumer Price Index (CPI) increased 0.5% from June, above the consensus forecast of 0.2%, and was 3.6% higher than one year ago. Core CPI, which excludes food and energy, rose 1.8% from one year ago, which was also higher than expected. Core CPI was at a level of 0.8% at the end of 2010. The July Producer Price Index also increased at a faster than expected pace. Rising inflation makes the Fed more reluctant to provide additional monetary stimulus. The inflation data may have prevented mortgage rates from dropping even further this week.

Week Ahead

Next week, New Home Sales will be released on Tuesday. Durable Orders, an important indicator of economic growth, will come out on Wednesday. Revisions to second quarter Gross Domestic Product (GDP) will be released on Friday, along with Consumer Sentiment. In addition, there will be Treasury auctions on Tuesday, Wednesday, and Thursday.