If you were the president of the United States or if you were chairman of the Federal Reserve Board, what actions would you initiate today to bring down interest rates? Obviously, not an easy question to answer, for everyone you ask, especially the financial experts, seems to have a different view. And this is probably one thing that is greatly plaguing the bond market.
Peter Gordon of T. Rowe Price in Baltimore feels that "what people felt were the reasons why interest rates went up and down are no longer there. Those reasons have vanished and investors can no longer assess why rates to up and down and so they are truly lost."
That is true. Until recently, investors have always believed that a weakening economy and a declining inflation rate led to lower interest rates. It was also believed that deficits didn't really matter that much, especially if an economy was extremely weak, because deficits could be accommodated by the market.
All of these things have occurred and yet interest rates are once again on the rise. And, as Gordon adds, "the deficits ara frightening the market psychologically, and there exists a wide belief now that no one knows what causes interest rates to move up or down and investors are scared as hell to commit funds to the marketplace."
These thoughts must have been on everyone's mind, for the market suffered a disastrous week. In fact, it seems that the market's worst fears of two months ago are fast becoming reality. Then, everyone felt short rates were just about to fall a lot, and long rates would follow, but to a lesser degree. But the market was also aware that the Treasury's financings would increase by midyear, that money supply would grow in July, and that quite possibly the economy could begin to stir in the third quarter. All these events would then lead to higher rates. But that was six or more weeks in the future.
So dealers carried hearby inventories through May and early June, in anticipation of the rally. Banks decided to wait for lower short-term rates before they sold their certificates of deposit to raise much needed funds. Corporations held off from selling long bonds and instead borrowed on a short-term basis through the commercial paper market and from the banks. But time flew by and there was no rally, and before everyone knew it, we were entering the bewitching period. Rates began rising and the dealers were caught with large positions. The newissue market picked up in the last two weeks and, as the buyers became mesmerized with the rising rates, the dealers had no one to sell the inventory to. So the markets plummeted.
But out of the ashes investment opportunities always arise. The Treasury will offer a four-year note on Wednesday, in minumum denominations of $1,000. It could return over 14.70 percent. For investors too shel-shocked to buy long maturities, thhee huge New York State TRAN tax exempt note due in March 1983 is now available on a 10 percent basis. Philadelphia temporary tax exempt loan notes maturing in April and June 1983 are being offered to return 11.18 percent. Probably no one will figure out why these rates went up, or how to get them down, but in a year or two, these returns could look just great.