Morning Report: Housing starts disappoint.

Vital Statistics:

 LastChange
S&P futures4,036-49.25
Oil (WTI)113.981.69
10 year government bond yield 2.98%
30 year fixed rate mortgage 5.48%

Stocks are lower this morning after lousy retailer earnings. Bonds and MBS are down.

I just got back from the Secondary conference in NYC. Seemed much more sparsely attended than previous years. The talk is all about cost-cutting and getting every last basis point you can out of a loan. Non-QM was a big subject, especially the part about that market drying up a couple months ago when rates spiked. Credit spreads for NQM are in from the wides of a couple months ago, but are still nowhere near where they were at the end of last year.

Retail sales rose 0.9% in April, which was a touch below expectation. These numbers are nominal, which means inflation isn’t taken into account. Ex-vehicles they rose 0.6% and ex-vehicles and gas they increased 1%. FWIW, we have seen some poor numbers out of the retailers – Target announced earnings this morning and is down 25% compared to yesterday’s close. Margins are decreasing an costs (especially distribution costs) are up. WalMart was beaten up pretty badly yesterday as well.

Do these numbers raise concerns about consumption, which is 70% of the US economy? Not yet, is the short answer. During the COVID lockdowns, people spent more on goods and less on services. Now that the pandemic is largely behind us, that is reversing. People are taking trips and vacations instead of spending on a new TV. Note that rising gas prices are having an effect as well. Rising gas and food prices crowd out other discretionary spending. Falling consumption will help alleviate price pressures, which is something that the Fed would like to see.

Jerome Powell said that no one should doubt the Fed’s resolve to fight inflation, even if that means unemployment will increase. “Restoring price stability is an unconditional need. It is something we have to do,” Mr. Powell said in an interview Tuesday during The Wall Street Journal’s Future of Everything Festival. “There could be some pain involved.” The Fed has painted itself into a corner, as the economy is weakening and the Fed needs to tighten to bring inflation under control. In a lot of ways, this was the story of the 1970s.

Housing starts disappointed again, coming in at 1.72 million in April. This is down MOM, but up significantly year-over-year. Building Permits rose to 1.82 million, in line with expectations.

The NAHB Housing Market Index – a measure of homebuilder sentiment – fell pretty dramatically from 77 to 69. This is a two year low on the index. “The housing market is facing growing challenges,” said NAHB chief economist Robert Dietz. “Building material costs are up 19% from a year ago; in less than three months mortgage rates have surged to a 12-year high, and based on current affordability conditions, less than 50% of new and existing home sales are affordable for a typical family.”

The MBA revised its forecasts for 2022 and 2023. Total originations for 2022 have been lowered from $2.5 trillion to $2.6 trillion. 2023 and 2024 are expected to contract further to $2.3 trillion and $2.5 trillion respectively.

Interestingly, they think rates have peaked here. They see the 30 year fixed rate mortgage settling out at 5.2%, and then gradually declining to 5% by the end of the year and then falling to 4.8% in 2023. The 10-year Treasury is expected to find a level at 2.9%. GDP growth is expected to stay below 2% for the next couple of years. Inflation is forecasted to peak around 8%, and fall to 5.4% by the end of the year.

Needless to say, the underlying assumption here is that the Fed can stick the landing and cool off inflation without causing a recession. In other words, this is probably a best-case scenario economically. Historically, an aggressive tightening schedule has caused recessions. The difference is that we have a super-tight labor market going into a tightening cycle. On the other hand, globalization and technology have papered over a lot of monetary sins over the past 40 years and that phenomenon is largely played out.

Author: Brent Nyitray

In the physical sciences, knowledge is cumulative. In the financial markets, it is cyclical

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