The Daily Tearsheet

Vital Statistics:

Stocks are higher this morning on no real news. Bonds and MBS are up small.

The week ahead will be dominated by inflation data, with the Producer Price Index on Tuesday and the Consumer Price Index on Wednesday. We will also get housing starts on Thursday and Leading Indicators on Friday.

The street is looking for CPI inflation to rise 0.3% MOM and 3.4% YOY. The core rate is expected to rise 0.3% MOM and 3.6% YOY.

Shelter has been the biggest driver of inflation, and persistently strong rents have frustrated the Fed’s fight to bring inflation down to its 2% target. Housing inflation has indeed slowed from a peak of 8.2% one year ago—but only to 5.6% in March, “a much slower pace than pretty much anybody anticipated,” said Jay Parsons, head of residential strategy at Madera Residential, a Texas-based apartment owner. 

Housing “has not behaved the way we thought it would,” Chicago Fed President Austan Goolsbee said in an interview last month. “I still think it will, but if it doesn’t, we’re going to have a hard time” bringing inflation back to 2%.

Biden has proposed giving first time homebuyers a monthly check of $400 for two years to encourage them to buy a house. If rising home prices are being driven by low supply (and they are), then stoking demand by subsidizing first time homebuyers isn’t the way to bring housing inflation down. ‘

There is a concept in economics called “pushing on a string” where this sort of demand stoking government spending ends up bumping up against the constraint of diminishing returns. Instead of addressing the problem it is attempting to solve, these policies just end up causing more inflation. The last time we saw this was the 1970s. We are back at it again today.

Vital Statistics:

Stocks are higher this morning on no real news. Bonds and MBS are up.

United Wholesale announced earnings yesterday, with a substantial uptick in volume on a YOY and QOQ basis. Volume rose to $27.6 billion compared to $24.4 billion in Q4 and $22.3 billion a year ago. Gain on sale margin rose to 108 basis points, compared to 92 in Q4 and Q123. On the earnings call, Mat Ishbia had this to say about the state of the market:

Yes, absolutely. I don’t think it’s reported up in the mainstream media, but we’ve seen a really strong purchase year so far, not just our mortgage company, but just in the market. I think inventories are up. They don’t, that’s not a fun news story because it’s positive. So a lot of people nationally doesn’t talk about it, but inventory is up, housing values are strong, and there’s a lot of first time homebuyers and people out there in the market.

And Fannie Mae, Freddie Mac have done some good things to try to drive more first time homebuyers and people into homes and opportunity out there. And so I think it’s actually a really strong purchase market. I won’t say like extremely strong as like the best of all time, but it’s a strong market, definitely stronger than it was last year. And that’s why we’re seeing volume increases. And I think we were up 24% year-over-year, and that’s in the first quarter on overall volume. And so purchases are strong and I think they’ll maintain strong being strong through the second and third quarter.

For-sale inventory rose 30% YOY in April, according to Realtor.com. The median home price was unchanged. Sellers are starting to do price reductions, especially in the South, where we saw the most speculative buying during the 0% interest rate era.

Vital Statistics:

Stocks are lower this morning after the Bank of England leaves rates unchanged. Bonds and MBS are up small.

Initial Jobless Claims increased to 231k last week. It sounds like we are finally seeing cracks in the labor market. This coincides with the exhaustion of COVID excess savings.

Mortgage Credit Availability increased by 0.1% in April, according to the MBA. “Mortgage credit availability was little changed in April, with credit categories such as conventional, conforming, and jumbo seeing very small monthly gains,” said Joel Kan, MBA’s Vice President and Deputy Chief Economist. “The supply of credit has stabilized, expanding slightly over the past four months but remaining close to 2012 lows. Lenders continue to reduce capacity with mortgage rates still above 7 percent and origination volume moving at a slow pace. Even with challenging affordability conditions and fairly strong housing demand, credit remains tight and housing supply low.” 

The NAHB estimates that if mortgage rates were at 2022 levels, an additional 10 million people could afford the median home. At the current 7.25% mortgage rate, only 27.5 million households (out of 137 million households in the US) can afford to buy a median priced new home. If mortgage rates fell to 5%, 37.7 million households could afford the median new home.

The funny thing is that a lot of the big builders are able to offer these sorts of rates by buying down the rate in lieu of other free upgrades. Generally speaking, the big builders usually allocate about $40k in free upgrades per home as an incentive to get buyers. These are usually things like granite countertops, premium appliances etc, however lately they have been applying this cash to buying down the mortgage.

Take a 500k new house: The buyer pays 500k and gets a $400k mortgage from the builder. The builder then gives the buyer a below-market mortgage rate of 5%. When the builder sells the mortgage in the market, it will get below par – something like 93% of face. If you add in the costs of originating the mortgage, the builder probably loses 10 points on the $400k mortgage, which is about $40k.

That is how the builders address the affordability issue.

Vital Statistics:

Stocks are lower this morning on no real news. Bonds and MBS are down.

Minneapolis Fed President Neel Kashkari thinks the current rate regime will last a while. He didn’t rule out further rate hikes, although he doesn’t consider that a base case. “The FOMC targets 12-month headline inflation of 2 percent. While we saw rapid disinflation in the second half of 2023, that progress appears to have stalled in the most recent quarter (see Figure 1). The question we now face is whether the disinflationary process is in fact still underway, merely taking longer than expected, or if inflation is instead settling to around a 3 percent level, suggesting that the FOMC has more work to do to achieve our dual mandate goals.”

He also suggested that policy might not be super-restrictive given the strength of the housing market. He does mention some exogenous factors such as underbuilding post-2008, along with heavy immigration has increased demand for housing. “Policy actions by the FOMC have driven 30-year mortgage rates from around 4.0 percent prior to the pandemic to around 7.5 percent today. Perhaps that level of mortgage rates is not as contractionary for residential investment as it would have been absent these unique factors which are driving housing demand higher. In other words, perhaps a neutral rate for the housing market is higher than before the pandemic.” Since housing is the main driver of inflation these days, inflation (and therefore tight monetary policy) might stick around a while longer.

In an interview, he did say the bar is high to consider additional rate hikes, and also said we may be at current levels a while: “My colleagues and I are of course very happy that the labor market has proven resilient, but, with inflation in the most recent quarter moving sideways, it raises questions about how restrictive policy really is.”

Bottom line: if housing is the driver of inflation, and the neutral rate may be higher, then additional rate hikes might be needed to cool the housing market. Unfortunately, it is a catch-22: The problem for housing is limited supply, and higher rates don’t encourage building. But if they cut rates to stimulate building, they might stimulate speculation instead.

FWIW, I think a lot of the hottest markets (especially in FL) were driven by Air BnB speculators, and the Air BnBust is in full bloom. We are seeing price cutting in a lot of the hottest markets.

If these properties were financed with non-QM mortgages using DSCR programs, we could start seeing DQs pile up there.

Mortgage applications rose 2.5% last week as purchases rose 2% and refis rose 5%. “Treasury rates and mortgage rates fell last week on the news of a slowing job market, with wage growth at the slowest pace since 2021, and the Federal Reserve’s announced plans to ease quantitative tightening in June and to maintain its view that another rate hike is unlikely. The conventional 30-year rate dropped 11 basis points, and the FHA rate fell 17 basis points to 6.92 percent, back below 7% for the first time in three weeks,” said Mike Fratantoni, MBA’s Senior Vice President and Chief Economist. “Mortgage applications increased for the first time in three weeks, with refinances up 5 percent. Even with the increase, which included a 29 percent jump in VA refinances, refinance volume remains about 6 percent below last year’s already low levels.”

Vital Statistics:

Stocks are flattish this morning on no real news. Bonds and MBS are up.

Home prices rose 5.6% year-over-year in March, according to the ICE Home Price Index. “Such strong price gains continue to plague would-be homebuyers in today’s higher-rate environment, but for existing homeowners the picture keeps growing brighter,” Walden added. “Homeowners with mortgages closed out the first quarter of 2024 with just a hair under $17T in home equity – an all-time high. Of that, a record $11T is tappable, meaning available for a homeowner to leverage while retaining a 20% equity cushion in the property. On average, that works out to roughly $206K in tappable equity per mortgage holder. Just five West Coast markets – Los Angeles, San Francisco, San Jose, San Diego, and Seattle – account for nearly a quarter of all tappable equity available”

Banks generally noted weaker demand and tighter standards for commercial and industrial loans in the first quarter, according to the Fed’s Senior Loan Officer Survey. Regarding resi loans, the Fed said: “For loans to households, banks reported that lending standards tightened across some categories of residential real estate (RRE) loans while remaining unchanged for others on balance. Meanwhile, demand weakened for all RRE loan categories. In addition, banks reported tighter standards and weaker demand for home equity lines of credit (HELOCs). Moreover, for credit card, auto, and other consumer loans, standards reportedly tightened and demand weakened.”

Richmond Fed President Tom Barkin sees the economy slowing in the coming months: “I am optimistic that today’s restrictive level of rates can take the edge off demand in order to bring inflation back to our target,” Barkin said in a speech to the Columbia Rotary Club in South Carolina. If the economy slows more significantly, the Federal Reserve has enough “firepower” to support it, Barkin noted. He also said that the full impact of the Fed’s tightening has yet to be felt.

The Atlanta Fed’s GDP Now Index still sees a robust 3.3% growth rate for Q2.

Vital Statistics:

Stocks are higher this morning on no real news. Bonds and MBS are up.

The week ahead is pretty data-light, although we will get a lot of Fed-speak. The main number will be consumer sentiment on Friday, which will have the inflation expectations number.

Fed Governor Michelle Bowman said that she thinks last year’s decline in inflation might have been an anomaly, and she is open to another rate hike. “While the current stance of monetary policy appears to be at a restrictive level, I remain willing to raise the federal funds rate at a future meeting should the incoming data indicate the progress on inflation has stalled or reversed. The recent pickup seems to be evident across many goods and services categories, suggesting that inflation was temporarily lower in the latter half of last year.”

The services sector slipped into contractionary mode in April, according to the ISM Services Index, snapping a 15 month streak of expansion. “The decline in the composite index in April is a result of lower business activity, slower new orders growth, faster supplier deliveries and the continued contraction in employment. Survey respondents indicated that overall business is generally slowing, with rates varying by company and industry. Employment challenges continue to be primarily due to difficulties in backfilling positions and/or controlling labor expenses. The majority of respondents indicate that inflation and geopolitical issues remain concerns.”

The report showed a marked increase in prices, with the diffusion index increasing from 53.4 to 59.2. At the same time, the Business Activity Index fell by 6.5 points to 50.9. The employment index contracted, and inventories are building. At first glance, this report suggests stagflation.

Notwithstanding Jerome Powell’s press conference comments regarding stagflation (basically saying the conditions in the late 70s are orders of magnitude worse than now), it does appear we have a situation where growth is slowing and inflation has yet to slow down in response.

The weak jobs report did cause the Fed Funds futures to price in 2 rate cuts in 2024, down from 1 late last week. The futures are calling for the first rate cut in September, followed by another in December.

Vital Statistics:

Stocks are higher this morning after a weaker-than-expected jobs report. Bonds and MBS are up big.

The economy added 175,000 jobs in April, according to the Employment Situation Report. This was well below the Street estimate of 243,000. The unemployment rate ticked up to 3.9%, which was above the consensus of 3.8%. Average hourly earnings rose 0.2% versus a 0.3% estimate and increased 3.9% on a year-over-year basis. Average weekly hours ticked down.

The labor force participation rate was flat at 62.7%, while the employment-population ratio declined by 0.1%. Overall, this jobs report is the first in a while that shows the labor market beginning to slow. This does comport with a lot of other anecdotal data, where jobs are hard to find outside especially for white-collar workers. Skilled labor and unskilled labor are still in demand, although they will be affected if demand continues to slip.

The bond market reacted positively to the report, after getting roughed up after the past few weeks. Treasuries especially are up on the back of a reduction in quantitative tightening. MBS will probably lag, but this should be good for mortgage rates at least at the margin.

Housing inventory rose 30% in April compared to last year, according to data from Realtor.com. The median home price remained stable at 343,000. There is a definite bifurcation, where some markets are saturated (think Florida and the other hot markets during the pandemic) versus places like the Northeast where there are limited homes for sale.

Vital Statistics:

Stocks are higher as the markets digest the latest decision from the Fed. Bonds and MBS are up.

As expected, the Fed maintained interest rates at current levels, and indicated that “higher for longer” is a possibility. They added the sentence: “In recent months, there has been a lack of further progress toward the Committee’s 2 percent inflation objective.” It did announce that it is beginning to reduce its quantitative tightening beginning in June. It will reduce its monthly redemption cap for Treasuries from $60 billion to $25 billion. They made no such changes on the mortgage side, and any excess mortgage principal payments will be re-invested into Treasuries.

The press conference was uneventful, with Powell emphasizing that inflation is too high.

Nonfarm productivity rose 0.3% in the first quarter, which was well below the 0.9% expectation. Unit labor costs rose 4.7%, which was a big increase from the 1.8% increase we have seen over the past year. This number is worrisome, since low productivity and inflation are usually associated with each other.

Job openings fell from 8.8 million in February to 8.4 million in March. This is well below the peak of 12.2 million openings in early 2022, but still above the pre-pandemic level of 7 million. The quits rate fell by 10 basis points to 2.1%. This is below pre-pandemic levels. Overall, this report shows that the employment market is weakening.

The manufacturing economy returned to contraction in April after a brief blip into expansion during the month of March.  “The U.S. manufacturing sector dropped back into contraction after growing in March, the first time since September 2022 that the sector reported expansion. Although demand improvement slowed, output remains positive and inputs stayed accommodative. Demand remains at the early stages of recovery, with continuing signs of improving conditions. Production execution continued to expand in March, but at a slower rate of growth than in prior months.”

The worrisome aspect of this report was prices, which shot up due to rising commodity prices.

We are seeing signs the consumer is pulling back, with disappointing results out of Starbucks, McDonalds, and KFC. The quick-service restaurants have been Ground Zero for inflation, as rising commodity prices and a tight labor market have combined to cause prices to double over the past decade.

Starbucks said this on the conference call: “In this environment, many customers have been more exacting about where and how they choose to spend their money, particularly with stimulus savings mostly spent”

Vital Statistics:

Stocks are lower as we await the Fed decision at 2:00 pm today. Bonds and MBS are down.

The economy added 192,000 jobs in April, according to the ADP Employment Report. “Hiring was broad-based in April,” said Nela Richardson, chief economist, ADP. “Only the information sector – telecommunications, media, and information technology – showed weakness, posting job losses and the smallest pace of pay gains since August 2021.”

The Street is looking for 243,000 jobs in Friday’s jobs report.

House prices rose 1.2% month-over-month in February, according to the FHFA House Price Index. On an annual basis, prices rose 7%. The Northeast and upper Midwest performed the best.

Home prices rose 6.4% annually in February, according to the Case-Shiller Home Price Index. “Following last year’s decline, U.S. home prices are at or near all-time highs,” says Brian D. Luke, Head of Commodities, Real & Digital Assets at S&P Dow Jones Indices. “Our National Composite rose by 6.4% in February, the fastest annual rate since November 2022. Since the previous peak in prices in 2022, this marks the second time home prices have pushed higher in the face of economic uncertainty. The first decline followed the start of the Federal Reserve’s hiking cycle. The second decline followed the peak in average mortgage rates last October.”

Consumer confidence fell pretty dramatically in April, as consumers worried about the state of the job market. “Confidence retreated further in April, reaching its lowest level since July 2022 as consumers became less positive about the current labor market situation, and more concerned about future business conditions, job availability, and income,” said Dana M. Peterson, Chief Economist at The Conference Board. Despite April’s dip in the overall index, since mid-2022, optimism about the present situation continues to more than offset concerns about the future. According to April’s write-in responses, elevated price levels, especially for food and gas, dominated consumer’s concerns, with politics and global conflicts as distant runners-up. Average 12-month inflation expectations remained stable at 5.3 percent despite concerns about food and energy prices.”

Mortgage Applications fell 2.3% last week as purchases fell 2% and refis fell 3%. “Inflation remains stubbornly high, and this trend is convincing markets that rates, including mortgage rates, are going to stay higher for longer. No doubt, this is a headwind for the housing and mortgage markets, with the 30-year fixed mortgage rate increasing to 7.29 percent last week, the highest level since November 2023,” said Mike Fratantoni, MBA’s SVP and Chief Economist. “Application volume for both purchase and refinances declined over the week and remain well below last year’s pace. One notable trend is that the ARM share has reached its highest level for the year at 7.8 percent. Prospective homebuyers are looking for ways to improve affordability, and switching to an ARM is one means of doing that, with ARM rates in the mid-6 percent range for loans with an initial fixed period of five years.”

Vital Statistics;

Stocks are lower this morning as the May FOMC meeting begins. Bonds and MBS are up.

Fed-whisperer Nick Timaros of the Wall Street Journal says the Fed is planning to signal to the markets that it is comfortable keeping rates higher for longer, while stopping short of introducing the possibility of raising rates further.

“Firmer-than-anticipated inflation in the first three months of the year has likely postponed rate cuts for the foreseeable future. As a result, officials are likely to emphasize that they are prepared to hold rates steady, at a level most of them expect will provide meaningful restraint to economic activity, for longer than they previously anticipated.”

“But a hawkish pivot, suggesting an increase in rates is more likely than a cut, appears unlikely, for now. Any such shift is likely to unfold over a longer period. It would require some combination of a new, nasty supply shock such as a significant increase in commodity prices; signs that wage growth was reaccelerating; and evidence the public was anticipating higher inflation to continue well into the future.”

The article suggests the Fed is close to tapering its balance sheet reduction (quantitative tightening) by reducing the runoff of its Treasury securities. In other words, this won’t affect mortgage backed securities. The runoff for mortgage backed securities continues, albeit at an organic pace driven by relocation and a few cash-out refis.

Compensation costs for civilian workers increased 1.2% in the first quarter, according to the Employment Cost Index. Wages increased 1.1%, as did benefit costs. For the past 12 months, compensation costs rose 4.8%. On a quarter-over-quarter basis, compensation costs rose from 0.9% to 1.2%, driven largely by an increase in benefit costs. Note this kind of contradicts the CPI data which claims that health insurance costs fell 15% in March.