Fed Day Taking Second Place to AIG Worries

Jeez-Louise! What a ride we're having!!!! Last week it was Fannie & Freddie. Yesterday it was Merrill & Lehman. Today...it could be AIG. These are watershed changes of seismic proportion. Really, really amazing stuff. In the turmoil, though, there is opportunity. From 2 weeks ago through today, we've seen certain loan programs provide an interest rate drop of nearly 1 full percentage point. That is HUGE for people looking to buy a house or refinance their current home. That change hasn't been without incident, though. It's been a very volatile ride down in the bond markets and it continues to be today (read on).

So, what's going on today? Well, today it's supposed to be Fed Day...but that isn't the big story at the moment. Right now, all eyes are on insurance giant AIG, which is in very serious trouble. The company is in desperate need of around $75 Billion and it has until today to shore up this capital, otherwise it could face bankruptcy. This story is far reaching as AIG is a worldwide company, with $1 Trillion in assets and operating in 130 countries. Think about this - AIG provides insurance in all facets of life, from car to life insurance - and should AIG go bankrupt, claims around the world would not get paid - that is scary to imagine. We will all see what happens in the next several hours as this story develops.

At 2:15pm ET, the Fed will release its interest rate decision and policy statement. Up until the last few days, there wasn't much of a chance for a Fed Cut - but as of this morning, the Fed Funds Futures are saying there is a 100% chance of a .25% cut and a 50% chance of a .50% cut. This is really amazing. We won't know for sure what will happen until later today - but with mounting issues in the financial sector, the Fed may just cut in an attempt to restore a sense of calm in the global financial markets. Should the Fed cut, Mortgage Bonds probably won't like this action because of its inflationary effects. Mortgage Bonds have already traded in a fairly wide 35bps range. The volatility in the market continues.

The headline Consumer Price Index for August was reported at -0.1%, meeting expectations and representing the first monthly decline since October 2006. When stripping out volatile food and energy, the Core CPI rose 0.2%, also meeting expectations. The Overall CPI year over year increased 5.4% and the Core CPI year over year rose 2.5%. With the report meeting expectations, the Fed may be feeling better about inflationary threats and this could help them justify a rate cut later this afternoon....again, probably not good for mortgage rates.

I really hope the Fed doesn't cut, as they did when they panicked in January. We are just starting to see signs of inflation moderating, oil prices receding and the US Dollar strengthening. A Fed Cut would likely disrupt those nice trends. Should the Fed not cut - Mortgage Bonds may likely move another leg higher, but should they cut - we could see prices give up some of their recent gains. I do expect mortgage bond prices to move higher in the longer-term, but a Fed Cut today could provide a speed bump and possible retracement in prices.

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Rich