Inflation is one of the Mortal enemies of interest rates. If dollars will buy less money in the future than they do now, investors will have to pay higher and higher interest rates on the money they lend to get the same returns. With that in mind, we have the right to assume that a surprisingly high figure on a major inflation report would drive interest rates high. In many cases in the past it worked out the same way, but it is not today.
To be fair, the markets traded conventionally for the first 20 minutes after the inflation report was released. But from that point on is the bond market collected (ie bond prices rose and yields fell, implying lower interest rates for the mortgage market).
What about that paradoxical reaction? There are a few moving parts. The simplistic answer that is making the rounds is that this inflation was simply “not enough” to undo the Fed’s commitment to maintaining policies that support lower interest rates. That could be a factor, sure, but the clear motivation is a lot more esoteric. It has to do with an imbalance in trading positions in the bond market and the subsequent exploitation or punishment of that imbalance.
In market jargon it says a short press and it basically means that so many traders have bet higher prices that they have been susceptible to anything pushing prices the other way. Such a move would force these traders to buy bonds to prevent further losses. This buy pushes interest rates even further and potentially hits the stop loss level for the next group of traders in line.
This is primarily a phenomenon that is noticeable in US Treasuries, but mortgage-backed bonds also improved steadily over the day. As a result, lenders increasingly remembered the initials of the day Mortgage rates Leaves and offered improved conditions (aka “Positive Factory Price”). In fact, some of these lenders have done this more than once! But even then, it is not in their nature to pass all of the market gains on to their interest rates in one day. Hence, bonds would only have to remain relatively stable tomorrow to see further improvements. To be clear, this is just an if / then statement and not something you would take for granted as a prediction.