With interest rates so low, Mr. And Mrs. Average American have been buying houses and cars they really can’t afford. While this habit continues to prop up a stumbling economy, there are other considerations. The flip side of this silver dollar is investors looking for income have dredged the barrel of suitability looking for meaningful returns. Imagine arrogant New Yorkers eating dog shit in Central Park and calling it truffles. Everyone had been selling paper, even Enron look-alike Calpine, which fed $2 billion of junk into our collective pie hole. Slowly, though, we’ve become satiated. American Airlines inability to peddle $250 million of convertible bonds marked a turning point.

Though airline stocks have handily outperformed the S&P 500 since spring, business is downright atrocious. Just as passenger yields were just beginning to recover from 9/11, the SARS virus broke loose, making travel to Asia riskier than patronizing a Lagos whorehouse with a broken condom dispenser. Combine empty seats with sky-high fuel prices and you’ve got an industry bleeding red ink. The not-so-friendly skies of rival UAL’s bankruptcy proceedings didn’t help the AMR deal either, as regulators forced United to disclose the true (and staggering) amount of its pension shortfall. With this revelation in hand, even the collection of village idiots known as Wall Street analysts could pencil out the massive deficits being hidden by other carriers.

Now that investors have become discerning, or at least dyspeptic, rates are beginning to back up. Despite the Federal Reserve keeping a foot on short-term rates, the ten-year treasury yield has jumped 125 basis points recently. Mortgages are a full percent more expensive. But why?

There are three main reasons that long-term rates are heading north: First, the federal government must issue piles of debt to pay for Operation Iraqi Freedom (known outside the White House as The Great Halliburton Harvest) and those recent tax cuts for the rich in order to cover the largest budget deficit in history. Second, as all your neighbors were refinancing their houses again, holders of those mortgages (pension funds and insurance companies with long-term liabilities) purchased long-term bonds to offset assets coming back too soon. Now that the refi game is over, these long-term bonds are no longer needed to match up against future claims and are being dumped back onto the market. Lastly, fixed income traders who own mortgage-backed securities hedge their positions by shorting treasury bonds of equal duration. When mortgages are no longer refinanced, but paid off over the full loan term, traders need to cover their short positions and resell further out on the yield curve. When the big players sell at the same time, prices fall and yields rise.

Gulping this down, it’s hard to imagine the economy recovering as interest rates (and oil prices) go up. The poison in the digestif is floating mortgages – free to climb with interest rates after a few years of a fixed teaser rate. This rate adjustment will probably take effect as the economy keels over and the pink slip arrives in the mail. Their monthly nut will grow precisely when Mr. And Mrs. You-Know-Who can least afford it. Put it all together and you have the recipe for a truffle sandwich.