Morning Report: Home purchase sentiment is dour.

Vital Statistics:

S&P futures4,03428.75
Oil (WTI)86.242.69
10 year government bond yield 3.26%
30 year fixed rate mortgage 5.94%

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

The Fannie Mae Home Purchase Sentiment Index fell in August as rising home prices and mortgage rates combined to make buyers reluctant to purchase. “The share of consumers expecting home prices to go down over the next year increased substantially in August. Accompanying this, HPSI respondents reported a significant decrease in home-selling sentiment,” said Doug Duncan, Fannie Mae Senior Vice President and Chief Economist.  “We also observed a large decline in consumers reporting high home prices as the primary reason for it being a good time to sell a home, suggesting that expectations of slowing or declining home prices have begun to negatively affect selling sentiment. Conversely, lower home prices would obviously be welcome news for potential first-time homebuyers, who are likely feeling the combined affordability constraints of the high home price and high mortgage rate environment. In fact, the survey’s ‘ease of getting a mortgage’ component dropped to an all-time low among this typically younger demographic (i.e., 18- to 34-year-olds). With home prices expected to moderate over the forecast horizon and economic uncertainty heightened, both homebuyers and home-sellers may be incentivized to remain on the sidelines – homebuyers anticipating home price declines and potential home-sellers not keen to give up their lower, fixed mortgage rate – contributing to a further cooling in home sales through the end of the year.”

Foreclosure starts are back at pre-pandemic levels, according to data from ATTOM. Foreclosure starts hit 34,501, which was up 118% compared to a year ago. Lenders started the process on 23,592 properties which was up 187% YOY. “Two years after the onset of the COVID-19 pandemic, and after massive government intervention and mortgage industry efforts to prevent defaults, foreclosure starts have almost returned to 2019 levels,” said Rick Sharga, executive vice president of market intelligence at ATTOM. “August foreclosure starts were at 86 percent of the number of foreclosure starts in August 2019, but it’s important to remember that even then, foreclosure activity was relatively low compared to historical averages.”

In September, the Fed is upping the number of mortgage backed securities it will allow to run off, from $17.5 billion to $35 billion. This should (at least in theory) reduce the demand from the Fed and theoretically cause mortgage backed security spreads to widen. However, because prepayment speeds are slowing at a rapid clip it looks like the Fed won’t even get to $35 billion in maturing MBS. In other words, the Fed won’t be re-investing any maturing principal, and the runoff will be slower than permitted (since the Fed can’t control who pays their mortgage off).

It will be more important to watch what happens in Treasury re-investments. The last time the Fed tried to reduce its Treasury holdings, repo rates spiked, which forced them to suspend roll-offs. We’ll see if they have fixed the issue this time around.

Morning Report: More hawkish comments out of the Fed.

Vital Statistics:

S&P futures3,957-22.25
Oil (WTI)83.321.36
10 year government bond yield 3.26%
30 year fixed rate mortgage 5.95%

Stocks are lower after the European Central Bank raised rates by 75 basis points. Bonds and MBS are down small.

Jerome Powell is speaking this morning. The prepared remarks don’t seem to be on the Fed’s site yet.

Cleveland Fed President Loretta Mester made hawkish comments yesterday.

We will need to move policy into a restrictive stance in order to put inflation on a sustained downward trajectory to 2 percent. That means that short-term interest rates adjusted for expected inflation, that is, real interest rates, will need to move into positive territory and remain there for some time. Right now, nominal short-term interest rates are lower than expected inflation, so short-term real interest rates are still negative and monetary policy is still accommodative. My current view is that it will be necessary to move the nominal fed funds rate up to somewhat above 4 percent by early next year and hold it there; I do not anticipate the Fed cutting the fed funds rate target next year. But let me emphasize that this is based on my current reading of the economy and outlook. While it is clear that the fed funds rate needs to move up from its current level, the size of rate increases at any particular FOMC meeting and the peak fed funds rate will depend on the inflation outlook, which depends on the assessment of how rapidly aggregate demand and supply are coming back into better balance and price pressures are being reduced.

The Fed funds futures still see an end-of-year Fed funds rate of 3.75% – 4.0% and project that rate holding steady through July of 2023.

Freedom just did another round of layoffs and it looks like they are pushing their ops largely overseas. The wholesale division took the brunt of the layoffs. The company has a contract with an offshoring company that has loans processed and underwritten in either India or the Philippines.

Home prices declined in July, according to Black Knight’s Mortgage Monitor. The median home price fell 0.77% in July, which was the worst single-month decline in prices since 2011. The declines should continue as housing affordability remains awful.

Black Knight thinks tappable equity probably peaked in May of this year. Note that prices generally follow a seasonal pattern, so some decline during the late summer / fall is normal.

Morning Report: Putting the Fed’s tightening cycle into perspective

Vital Statistics:

S&P futures3,940-5.0
Oil (WTI)85.25-1.74
10 year government bond yield 3.30%
30 year fixed rate mortgage 5.97%

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

The markets are forming a consensus that the Fed will hike rates another 75 basis points at the September 20 – 21 FOMC meeting. The Fed funds futures see a 82% chance of 75 and a 18% chance of 50.

Jerome Powell’s speech at Jackson Hole was taken as hawkish, and so far the Fed has not pushed back on that interpretation, which is partially what has driven the change in sentiment.

If the Fed does indeed hike by 75 basis points, this will work out to be 300 basis points of rate hikes over a six month period, which is the most dramatic increase in recent history. The most comparable period is 1994 when Alan Greenspan hiked the Fed Funds rate from 3.25% to 6% over the course of a year. Old-timers might remember that this crashed the mortgage backed securities market. Orange County, CA went bankrupt after massive MBS investments went sour.

We are doing more this time over the course of six months. If the December futures are correct, we will see 375 basis points over the course of a year. In 1981, Paul Volcker raised the Fed Funds rate from 16% to 20% and caused the deepest recession since the Great Depression.

The point is that the Fed is acting almost as aggressively against inflation as it did in the early 1980s. This certainly explains the stock market’s reaction.

Home prices declined 0.3% in July, according to CoreLogic. They rose 15.8% YOY. “Following June’s surge in mortgage rates and the resulting dampening effect on housing demand, price growth is taking a decisive turn. And even though annual price growth remains in double digits, the month-over-month decline suggests further deceleration on the horizon. The higher cost of homeownership has clearly eroded affordability, as inflation-adjusted monthly mortgage expenses are now even higher than they were at their former peak in 2006.”

Mortgage Applications fell 0.8% last week as purchases and refis fell by about the same amount. “Mortgage rates moved higher over the course of last week as markets continued to re-assess the prospects for the economy and the path of monetary policy, with expectations for short-term rates to move and stay higher for longer,” said Mike Fratantoni, MBA Senior Vice President and Chief Economist. “With the 30-year fixed rate rising to the highest level since mid-June, application volumes for both purchase and refinance loans dropped. Recent economic data will likely prevent any significant decline in mortgage rates in the near term, but the strong job market depicted in the August data should support housing demand. There is no sign of a rebound in purchase applications yet, but the robust job market and an increase in housing inventories should lead to an eventual increase in purchase activity.”

Morning Report: Data-light week ahead

Vital Statistics:

S&P futures3,94520.50
Oil (WTI)87.720.84
10 year government bond yield 3.26%
30 year fixed rate mortgage 5.87%

Stocks are up this morning as investors become more comfortable with risk assets after the jobs report. Bonds and MBS are down.

The upcoming week is relatively data-light, but we will have a lot of Fed-speak including Jerome Powell on Thursday. We won’t have any market-moving economic reports this week.

The housing market is “losing momentum” according to Wells Fargo. “There’s no question that the housing market has long lost momentum and continued to lose momentum in July,” Vitner told the Times in an article published Wednesday. “When we get the June, July, and August data, I think we’ll see substantially more weakness in the West, and probably more weakness across the country. It’s worse than it looks,” he added. “A lot of folks have underestimated how much of a shift we’ve seen in the housing market.”

The sale to list ratio fell below 100% for the first time since since March of 2021, as affordability constraints limit what buyers can pay. “While the cooldown appears to be tapering off, there are signs that there is more room for the market to ease,” said Redfin Chief Economist Daryl Fairweather. “The post-Labor Day slowdown will likely be a little more intense this year than in previous years when the market was super tight. Expect homes to linger on the market, which may lead to another small uptick in the share of sellers lowering their prices. Homebuyers’ budgets are increasingly stretched thin by rising rates and ongoing inflation, so sellers need to make their homes and their prices attractive to get buyers’ attention during this busy time of year.”

You can see that prices are beginning to moderate.

The service economy improved in August, according to the ISM Services Index. Most notably, we saw an improvement in supplier deliveries and a deceleration in prices. “The Prices Index decreased for the fourth consecutive month in August, down 0.8 percentage point to 71.5 percent. Despite an improvement in inventory levels, services businesses still continue to struggle to replenish their stocks, as the Inventories Index contracted for the third consecutive month; the reading of 46.2 percent is up 1.2 percentage points from July’s figure of 45 percent. The Inventory Sentiment Index (47.1 percent, down 3 percentage points from July’s reading of 50.1 percent) moved back into contraction territory in August.” We aren’t out of the woods by any stretch, but we are starting to see anecdotal indications that inflation is subsiding.

Morning Report: The labor economy begins to weaken.

Vital Statistics:

S&P futures4,00140.50
Oil (WTI)89.102.51
10 year government bond yield 3.22%
30 year fixed rate mortgage 5.91%

Stocks are higher this morning after the jobs report showed a deterioration in the labor market. Bonds and MBS are up.

The economy added 315,000 jobs in August, according to the BLS. This was a touch above the 293,000 consensus number, but a big decrease from the 526,000 that were reported in July. The unemployment rate ticked up 0.2% to 3.7%. The labor force participation rate increased to 61.4% from 61.1%, so this uptick in unemployment was driven by both an increase in the unemployed and an increase in the labor force. Average hourly earnings rose 5.1% YOY.

Overall, this report shows the Fed is finally getting some traction in slowing down the economy. Bonds took the report with a sigh of relief and stock have rallied as well.

The Fed Funds futures got a little more dovish after the report, with the Sep futures seeing a 62% chance of 75 basis points and a 38% chance of 50. The December futures are now handicapping a 40% chance of an end-of-year rate of 3.5%-3.75% and a 56% chance of 3.75%-4.0%.

It bears repeating that monetary policy acts with about a 6-9 month lag, so the big increases of the past couple of months have yet to impact the economy.

Home Prices rose 7.4% QOQ and 16.7% YOY according to the Clear Capital Home Data Index. The Northeast had the biggest quarterly growth at 11.6%. The Northeast and the Midwest have been laggards since the housing recovery began. The West looks like it is beginning to decelerate after torrid growth.

Note the Clear Capital index is about a month ahead of Case-Shiller and FHFA.

Construction spending fell 0.4% MOM and rose 8.4% YOY, according to Census. Residential construction fell 1.5% MOM and but is still up 14% YOY.

The median mortgage payment is approaching 150% of the typical rent payment, which is the biggest differential since 2009. In early 2020, the payments were roughly equal. This differential is a huge driver of the rent versus buy decision and is one of the reasons why purchase activity is slowing.

That said, it appears that home price appreciation is at least decelerating and the apartment REITs are all reporting mid-teens increases in rents for new tenants. So as rents rise and (hopefully) rates work back downwards that differential should close.

The combination of rising rates and rising prices have simply priced a lot of people out of the market.

Morning Report: Some good news on inflation

Vital Statistics:

S&P futures3,931-23.50
Oil (WTI)87.76-1.81
10 year government bond yield 3.25%
30 year fixed rate mortgage 5.81%

Stocks are lower on continued Fed fears. Bonds and MBS are down.

The 10 year bond yield soared in the last hour of trading yesterday. I didn’t see anything in particular driving it and I assumed it was just month-end noise. The sell-off is continuing this morning, so perhaps that doesn’t explain it. Regardless, the market seems to be bracing for a blockbuster jobs report tomorrow.

Some bad news for inflation: productivity fell 4.1% in the second quarter as output fell 1.4% and hours worked increased 2.7%. This number was a touch better than expectations, however. The bad number (at least for bonds and the Fed) was the 10.2% increase in unit labor costs, which was the highest since 1982. This as driven by a 5.7% increase in compensation and a 4.1% decrease in productivity. You can see in the chart below that we are getting back to levels last seen in the 1970s.

Interestingly, there is a bifurcation between manufacturing and non-manufacturing. Manufacturing productivity increased as output rose 4.1% and hours worked fell 0.7%. This mean that the service sector became highly inefficient during the quarter. Is this the quiet quitting phenomenon we have been reading about?

Announced job cuts fell 21% MOM to just over 25k, according to outplacement firm Challenger, Gray and Christmas. Announced job cuts are up 30% YOY however. “Employment data continue to point to a strong labor market. Job openings are high, layoffs are low, and workers seem to have slowed their resignations. If a recession is imminent, it’s not yet reflected in the labor data,” said Andrew Challenger, Senior Vice President of Challenger, Gray & Christmas, Inc. Separately, initial jobless claims fell 5k last week. Note job cuts in finance and fintech increased 765% to

Bottom line: while employment is a lagging indicator so far we aren’t seeing any evidence in the numbers that the job market is reacting to the increased fed funds rate. All eyes turn to the employment situation report tomorrow.

The ISM Manufacturing Index was flat in August, however the report generally contained good news. Most notably, the Prices index fell pretty dramatically and is back to June 2020 levels. Production fell while new orders increased. “The U.S. manufacturing sector continues expanding at rates similar to the prior two months. New order rates returned to expansion levels, supplier deliveries remain at appropriate tension levels and prices softened again, reflecting movement toward supply/demand balance. According to Business Survey Committee respondents’ comments, companies continued to hire at strong rates in August, with few indications of layoffs, hiring freezes or head-count reductions through attrition. Panelists reported lower rates of quits, a positive trend. Prices expansion eased dramatically in August, which — when coupled with lead times easing — should bring buyers back into the market, improving new order levels. Sentiment remained optimistic regarding demand, with five positive growth comments for every cautious comment.”

Mortgage Applications hit a 22 year low

Vital Statistics:

S&P futures4,01122.00
Oil (WTI)90.21-1.38
10 year government bond yield 3.13%
30 year fixed rate mortgage 5.81%

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

The Fed Funds futures continue to get more hawkish. The futures now see a 72% chance of a 75 basis point hike in September and a 65% chance of a total of 150 basis points in rate hikes by the end of the year. A month ago the market was circling a fed funds rate of 3.25%, and almost no chance of 3.75%. Today, the market sees a 65% chance of 3.75% and a negligible chance of a 3.25% rate.

Mortgage applications fell to the lowest level in 22 years, according to the MBA. “Application volume dropped and remained at a multi-decade low last week, led by an 8 percent decline in refinance applications, which now make up only 30 percent of all applications,” Kan added. “Purchase applications have declined in eight of the last nine weeks, as demand continues to shrink due to higher rates and a weaker economic outlook. However, rising inventories and slower home-price growth could potentially bring some buyers back into the market later this year.”

The chart for the index looks dismal indeed

FWIW, I think Joel Kan is probably correct, although purchase activity will probably rebound early in 2023 as the spring selling season starts. I don’t see a decline in overall home prices, although appreciation could slow back to normal levels.

I also think that the economy is weakening already and the impact of the Fed’s tightening have yet to be felt. With GDP growth already negative, and many of the supply issues having been solved the Fed Funds futures might be erring on the hawkishness side.

What the US desperately needs is a homebuilding boom, and hopefully we get one in early 2023 to help lead the economy out of recession as they have typically done in the past (2008 notwithstanding, as the recession was due to the bursting of the housing bubble).

FWIW, Goldman Sachs does not see a homebuilding boom in 2023. “Past housing downturns have typically been accompanied by economy wide recessions, which led to an influx of housing supply as unemployment rose and individuals were forced to sell their homes (this was especially the case in the financial crisis). However, an influx of supply from this channel seems unlikely this cycle: the labor market remains robust (and likely will, even in a mild recession) and, as we wrote last week, household balance sheets are extremely strong and loan delinquency rates are likely to remain historically low,” writes Goldman Sachs researchers. “Thereafter, we expect home prices to be flat in 2023.”

I agree with their statement that we won’t see a lot of forced selling – the economy is too strong for that. But I think hanging your hat on a labor market restricting supply as construction wages continue to rise is an awfully thin reed to hang on to. A lack of consumer pain could affect existing home sales, perhaps. But the simple fact is that there is an abject shortage of housing in the US, and homebuilders will take advantage of it at some point. Note that gross margins are sky-high for the builders. I will admit there have been a lot of false dawns for homebuilding, so perhaps the trend will continue.

Morning Report: Dove Neel Kashkari “happy” with stock market sell-off

Vital Statistics:

S&P futures4,04415.00
Oil (WTI)94.07-1.38
10 year government bond yield 3.09%
30 year fixed rate mortgage 5.79%

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

Minneapolis Fed President Neel Kashkari said he was “happy” to see the stock market reaction to Jerome Powell’s speech on Friday. “I was actually happy to see how Chair Powell’s Jackson Hole speech was received,” Kashkari said in an interview with Bloomberg’s Odd Lots podcast on Monday, reflecting on the steep drop after Powell spoke. “People now understand the seriousness of our commitment to getting inflation back down to 2%.”

Since Neel Kashkari has historically been one of the biggest doves on the Fed, this statement has even more impact. The market is interpreting Powell’s remarks as the Fed wants to see demand destruction, not just an improvement on the supply side. In other words, falling commodity prices and an improvement in supply chain issues are a necessary, but not sufficient, impetus to get the Fed to pivot. IMO, the Fed wants to see at least 4% unemployment before it thinks of pulling back.

We are seeing some improvements on the inflation front. One indicator that is useful for global demand is the Baltic Dry Index which measures the cost of moving raw materials by sea. When the index falls, it indicates that demand is slowing. We can see the chart below which has been falling.

Fridays jobs report could be a reversion to the old “bad news is good news” phenomenon. If we see an uptick in unemployment, markets could rally since this would mean the Fed’s tightening is gaining traction.

Consumer Confidence improved in August according to the Conference Board. These consumer confidence indices are heavily influenced by gasoline prices, so this does reflect an easing of prices over the past month.

“Consumer confidence increased in August after falling for three straight months,” said Lynn Franco, Senior Director of Economic Indicators at The Conference Board. “The Present Situation Index recorded a gain for the first time since March. The Expectations Index likewise improved from July’s 9-year low, but remains below a reading of 80, suggesting recession risks continue. Concerns about inflation continued their retreat but remained elevated. Meanwhile, purchasing intentions increased after a July pullback, and vacation intentions reached an 8-month high. Looking ahead, August’s improvement in confidence may help support spending, but inflation and additional rate hikes still pose risks to economic growth in the short term.”

Job openings ticked up slightly in July, but the trend is still generally lower as we retreat from record highs. The quits rate (which tends to lead wage growth) ticked down to 2.7%. This is an indication that the labor market is softening a touch. Note this is July data, so it is somewhat dated.

Home prices rose 17.7% YOY and 4% QOQ, according to the FHFA House Price Index. “Housing prices grew quickly through most of the second quarter of 2022, but a deceleration has appeared in the June monthly data” said William Doerner, Ph.D., Supervisory Economist in FHFA’s Division of Research and Statistics. “The pace of growth has subsided recently, which is consistent with other recent housing data.”

Morning Report: Jerome Powell spooks the markets

Vital Statistics:

S&P futures4,027-32.27
Oil (WTI)94.421.38
10 year government bond yield 3.09%
30 year fixed rate mortgage 5.70%

Stocks are lower this morning on follow-through Jerome Powell’s Jackson Hole speech last Friday. Bonds and MBS are down.

Jerome Powell’s Jackson Hole speech was a seismic event in the stock market, although the reaction didn’t really get going until long after. Here were his prepared remarks. It looks like this section was what got everyone’s attention:

Restoring price stability will take some time and requires using our tools forcefully to bring demand and supply into better balance. Reducing inflation is likely to require a sustained period of below-trend growth. Moreover, there will very likely be some softening of labor market conditions. While higher interest rates, slower growth, and softer labor market conditions will bring down inflation, they will also bring some pain to households and businesses. These are the unfortunate costs of reducing inflation. But a failure to restore price stability would mean far greater pain.

The stock market and the bond market sold off and the Fed Funds futures got more hawkish. They are now predicting a 2/3 chance of a 75 basis point hike in September and a 1/3 chance of a 50 basis point hike. The December futures are handicapping a 50% chance that the target rate will be 3.75% – 4.00%. A month ago, that wasn’t even in the mix. So basically over the past month, we have added about 50 basis points to the end-of-the year Fed funds futures forecast.

The reaction in the bond market was to send the 2 year and the 10 year yield higher, and a stronger inversion to the yield curve. The 2s 10s spread is 33 basis points and 2s 30s is 18 basis points. So this is a pretty substantial recessionary indication.

I would summarize the market’s interpretation of Powell’s comments as this: “We are going to raise rates higher than the market is anticipating, and will keep them there longer than the market is anticipating. We are going to cause a recession and if we have a hard landing, so be it.”

Is this an overreaction? Quite possibly. I would ask however if inflation has gotten worse or better since the June meeting. Because in June, the Fed saw a Fed Funds rate of 3.25% – 3.5%.

The month-over-month changes for the CPI were 1.0% in May, 1.3% in June and 0% in July. PCE inflation has been trending down as well. We will get 2 more jobs reports and 1 more CPI report before the Fed meets in September. If inflation is indeed moderating, I don’t see the Fed upping their own Fed Funds forecast, especially since they see the long-term rate (last column) around 2.5%.

The week ahead will contain a lot of important data, with the jobs report on Friday being the most critical. We will also get some house price data with FHFA on Tuesday. On Thursday we get ISM, productivity and costs and construction spending.

Morning Report: Some encouraging news on inflation

Vital Statistics:

S&P futures4,2011.27
Oil (WTI)91.97-0.48
10 year government bond yield 3.05%
30 year fixed rate mortgage 5.73%

Stocks are flat as we await Jerome Powell’s speech at Jackson Hole. Bonds and MBS are up.

Personal Incomes rose 0.2% MOM in July, which was a dramatic slowdown from the 0.7% recorded in June. Personal consumption expenditures fell from 1% to 0.1%.

Finally, the PCE Price Index (which is the Fed’s preferred measure of inflation) fell 0.1% on a MOM basis. Ex-food and energy, it was up 0.1%. This suggests that we have turned the corner on inflation, however the Fed will need to see a string of these before it takes its foot off the brakes. On a YOY basis, the PCE Price Index rose 6.3% on the headline number and 4.6% ex-food and energy.

Blackstone-backed Home Partners of America is stopping purchases of homes in 38 cities and will add more in October. This is the latest sign than institutional investors are getting nervous about the torrid home price appreciation we have seen over the past several years.

Consumers are beginning to improve their mood, according to the University of Michigan Consumer Sentiment Index. The improvement was largely due to better expectations for the economy going forward. Most notably, expectations for year-ahead inflation fell to 4.8%, the lowest in 8 months. The Fed pays close attention to this number.