Morning Report. Second round of stimulus passes

Vital Statistics:

 

Last Change
S&P futures 2806 14.1
Oil (WTI) 17.21 0.69
10 year government bond yield 0.61%
30 year fixed rate mortgage 3.43%

 

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

 

The second round of stimulus passed the House yesterday and is scheduled to be signed by the President at noon today.

 

Durable goods orders fell 14% in March, driven by lower transportation orders. Ex-transports, they were down 0.2%. Core Capital Goods (a proxy for capital expenditures) rose 0.1%.

 

New Home Sales fell to 627k in March from an annualized pace of 741k in February.

 

Homebuilder Pulte reported good earnings yesterday, however this was mainly before the COVID-19 pandemic hit.  “The U.S. housing industry carried tremendous momentum into 2020, until the devastating effects of the COVID-19 pandemic began impacting the country,” said Ryan Marshall, PulteGroup President and CEO. “As the coronavirus spread and state and local governments implemented various restrictions and stay-in-place orders, we experienced a material slowdown in consumer traffic and sales activity beginning in mid-March.” Despite the COVID issues, closings and orders were up 16% and gross margins increased. Before COVID, 2020 was expected to be the year when homebuilding finally broke out of the post-bubble vortex. It looks like it will have to wait another year. As an aside, Redfin reported that 1 in 7 offers were signed by buyers who saw the home virtually.

 

About 3.4 million homeowners have requested mortgage forbearance, according to Black Knight Financial Services. This is 6.4% of all mortgages. With 26 million new unemployment claims since the shelter-in-place orders, that number is probably going up. At this level, servicers in aggregate are on the hook to advance $2.8 billion per month for Ginnie securities. So far, Treasury is refusing to create an advance facility for non-bank servicers.

 

Some states are relaxing shelter-in-place restrictions and allowing non-essential businesses to re-open. Needless to say, public health types are aghast, however it will be interesting to see how well it works, especially Texas. Speaking of Texas, the amount of newly unemployed in the US, about 26 million, is just shy of the population of the US’s second most populous state at 29 million. That puts the economic carnage of this shelter-in-place order in perspective. Even New York is beginning to look at relaxing restrictions, at least upstate.

 

 

 

 

Morning Report: Almost 3 million homeowners request forbearance

Vital Statistics:

 

Last Change
S&P futures 2815 -50.1
Oil (WTI) 11.23 -7.29
10 year government bond yield 0.63%
30 year fixed rate mortgage 3.38%

 

Stocks are lower this morning as people watch the price of oil collapse. Bonds and MBS are up small.

 

Oil is down huge this morning. Why? Nowhere to put it. We are getting back towards the late 90s, when the Economist put out its famous “drowning in oil” cover, which marked the bottom of the oil market. Note that it is the May contract, which expires this week that is down so much. Since it is no longer front month, it isn’t really actively traded and therefore not representative of the true price of oil in the markets. The June contract is trading around 22 bucks. Ironic that we are headed into the summer driving season with oil at the lowest in a generation, but there is nowhere to go.

 

oil

No major economic data this week, aside from initial jobless claims. We do get some real estate data with existing home sales, new home sales, and the FHFA House Price Index. The NY Fed is decreasing its TBA purchases to $10 billion per day.

 

The Chicago Fed National Activity Index was flashing “recession” in March, falling to -4.17. (Anything under -0.7 is considered recessionary). Mohammed El-Arian says the economy could contract 14% in 2020. Citi also warns that the markets aren’t pricing in a second wave of infections.

 

Almost 3 million people have asked for mortgage forbearance under the CARES Act. This represents 5.5% of all active mortgages. This is 4.9% of all Fannie / Freddie loans and 7.6% of FHA / VA loans. So far servicers are getting crushed by this. “It’s frankly frustrating and ridiculous that we do not have a solution in place,” said Jay Bray, CEO of Mr. Cooper, one of the nation’s larger mortgage servicers, who consulted with the Trump administration to set up the bailout. “When we were working on the Act, we had liquidity in it, and it did not make it into the Act. We were told it would be handled through the administration, and it’s a real problem.”

Last week Senators Sherrod Brown and Maxine Waters sent a letter to the Administration:  “The government must be prepared to respond quickly to prevent a liquidity shortfall in the single-family and multifamily mortgage markets, and to ensure that consumers are equitably served by that response. Any liquidity provided must be used to stabilize the market at a time when many families may fall behind on payments and facilitate relief to individual homeowners and renters throughout the market through forbearance, loss mitigation, and protection from displacement, rather than immediate defaults and evictions.”

Civil Rights and fair housing groups are also requesting a facility for servicers. While it seem unusual for the Professional Left to go to bat for servicers, they sense that if no facility is set up, no one will want to do FHA loans in the future. FHA business is severely restricted at the moment.

 

 

Morning Report: Stocks jump on promising COVID-19 treatment

Vital Statistics:

 

Last Change
S&P futures 2858 70.1
Oil (WTI) 17.83 -2.29
10 year government bond yield 0.63%
30 year fixed rate mortgage 3.38%

 

Stocks are higher this morning after positive news out of Gilead regarding a treatment for COVID-19. Bonds and MBS are down small.

 

Investors are bullish after the government released its plan to re-start the economy. It will involve a staggered, 3 stage process which will be left up largely to state governors. Under the first phase, movie theaters, restaurants, sports venues, places of worship, gyms and other venues could re-open with some restrictions. Schools would remain closed, and workplaces could re-open although companies will be encouraged to telecommute. Under the second phase, non-essential travel could resume, bars and schools could re-open. Under the final phase, visits to hospitals and nursing homes could resume. The Trump Administration believes some states could be ready to open quickly, by May 1. Others will take some time. Separately, NY extended the lockdown to May 15.

 

Politicians are beginning to become more vocal regarding the need to help servicers. Senators Maxine Waters and Sherrod Brown both called on the Fed and Treasury to provide liquidity to servicers struggling with advances. “Mortgage servicers are expected to face increased strain as millions of homeowners and renters lose jobs, are furloughed, or see reduced hours, all of which will keep them from making mortgage and rent payments, as a result of this public health crisis. We must not allow the pandemic to destabilize critical markets, including our housing market,” the lawmakers wrote in their letter.

 

China’s first quarter GDP dropped for the first time on record. China went into this crisis with a real estate bubble and a shaky banking system to begin with. Their economy will bear watching going forward, especially if the real estate bubble bursts and China begins exporting deflation. If it does, plan on 0% rates in the US for longer.

 

Chase has stopped accepting HELOC applications for the time being. This is just after instituting a 700 FICO floor and 20% down on loans. Chase wasn’t really in the FHA space after getting socked with a deluge of false claims act penalties in the aftermath of the 2008 crisis.  I have to wonder if the COVID-19 Crisis restricts the FHA market even further overall going forward. This is the last thing the left wants to see, and is perhaps why we are seeing Democrats like Maxine Waters and Sherrod Brown suddenly care about servicers.

 

Last week, I participated on Louis Amaya’s Capital Markets Today podcast and discussed the issues affecting the origination market. You can get the replay here.

Morning Report: Retail sales take a dive

Vital Statistics:

 

Last Change
S&P futures 2776 -72.1
Oil (WTI) 20.03 0.29
10 year government bond yield 0.66%
30 year fixed rate mortgage 3.37%

 

Stocks are lower this morning on overseas weakness. Bonds and MBS are up.

 

It is April 15, and taxes are not due. People are starting to get their stimulus checks from the government. The Fed is beginning to advise on how to get the economy started again. On one hand, the economy cannot afford the roughly $25 billion a day in lost output the lockdown costs. On the other hand, if we re-open prematurely and have a second wave of infections, the economic costs could be worse. At the end of the day, people simply aren’t going to put up with this much longer. In places where there are few cases, people are simply going to ignore the edicts out of Washington and get back to work. The local governments are going to look the other way because they need the revenue as badly as people need their paychecks.

 

Mortgage Applications rose 7% as purchases fell 2% and refis increased 10%. Purchase activity will be muted as in-home showings and appraisal issues are a problem. Separately, the homebuilder sentiment index collapsed in April, from 60 to 30.

 

Retail sales fell 8.7% in March, as weakness in autos and gasoline was offset by an increase in TP and Purell.

 

Like the other big banks, Citi’s earnings took a hit as the company reserved $5 billion for expected defaults. Citi’s exposure is less in mortgages than, say Wells, but it is huge in credit cards and commercial real estate.

 

Industrial production fell 5.4% in March, while manufacturing production fell 6.3%. Capacity Utilization fell from 77% to 72.7%.

 

If you apply for forbearance, the initial negotiating position for most banks will be that the entire amount will be due immediately at the end of the forbearance period. For what its worth, I suspect this is to deal with the precautionary forbearance borrowers, those who are gaming the system by saying “I think I could get laid off, so I will suspend my mortgage payments for 90 days and keep them in the bank. At the end of the period, I will just send it all in at once.” At the end of the day, the government should have required some sort of proof of hardship. Given that the precautionary forbearance requests will compete with the people who actually need the help, servicers are overwhelmed with requests, and it seems forbearance will go to the borrowers who have the patience and free time to sit on hold for hours. The government really should have considered servicer capacity to handle requests (among other things) when it drafted the law.

 

 

Morning Report: Homes are still affordable, but for how much longer?

Vital Statistics:

 

Last Change
S&P futures 2732.75 -6.85
Eurostoxx index 362.55 -0.95
Oil (WTI) 62.68 -0.42
10 year government bond yield 3.20%
30 year fixed rate mortgage 4.96%

 

Stocks are lower as voters head to the polls for Midterm elections. Bonds and MBS are flat.

 

Regardless of what your politics are, I think everyone will agree that it will be refreshing to not get spammed everywhere with political ads, starting tomorrow.

 

The Midterm elections will hold the press’s attention today, however they won’t have much (if any) of an impact on markets. Expect Democrats to take the House and a few governorships and Republicans to hold the Senate. This means gridlock for the next two years, which is good news for stocks and bonds.

 

The ISM Non-Manufacturing Index slowed a touch in September, but was still pretty strong. New Orders rose while employment was a drag on the index. Employment issues referred to the labor supply, with comments like: “Low unemployment causing team members to leave for higher wages in other businesses and industries” and “Challenging to replace vacant positions.” Expect to see more wage inflation ahead. Tariffs are still worrying some respondents and construction is experiencing cost push inflation. Retailers are reporting strong traffic and expect it to continue through the rest of the year. All of this adds up to a probable hike in December.

 

Rising mortgage rates have cut the size of the refinanceable pool of mortgages to 1.85 million, a 56% drop from the beginning of the year. Overall, there apparently were 6.5 million borrowers in total who had the opportunity to refinance during the ZIRP years that missed the boat. Despite the concerns about affordability, it takes 23.6% of median income to make the monthly payment on the average house which is lower than the pre-bubble benchmark of 25.1%. (Note: I did a deep dive into that metric earlier this year in the Scotsman Guide: Homes are Not Overpriced.) Black Knight estimates that an additional 50 basis points rise in the mortgage rate will push the monthly payment metric above the historical average, even if home prices don’t rise further.

 

refinance candidates

 

The residential homebuilding sector has had a lot of headwinds to deal with, from labor shortages, to rising materials prices and also the lack of buildable lots. The issue is that in the areas where demand is highest (places like Seattle and SF) there are geographical issues that make building out hard. On the other hand, in places like the Midwest, where there is less demand, there is plenty of land available.

Morning Report: The era of low mortgage rate is over

Vital Statistics:

Last Change
S&P futures 2713 -5.75
Eurostoxx index 394.37 -1.42
Oil (WTI) 71.39 -0.08
10 Year Government Bond Yield 3.09%
30 Year fixed rate mortgage 4.69%

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

Slow news day. with no economic data.

The Wall Street Journal has declared the era of low mortgage rates is over. What does this mean for the industry? For the industry overall, it means a tougher fight to keep purchase business, but it also could depress home sales as a combination of higher home prices and higher rates make moving up too unaffordable. NAR estimates that the effect of a 100 basis point increase in mortgage rates can reduce sales by 8%. Mortgage rates have been on a tear this year, increasing 62 basis points since the end of 2017. The 10 year yield has increased by the same amount, and usually mortgage rates don’t move up in a 1:1 ratio with Treasuries. I wouldn’t be surprised to see mortgage rates fall if Treasury yields stall out here.

I suspect that “convexity selling” has been driving the moves in rates. Mortgages have a quirky characteristic called negative convexity. Negative convexity explains why a GN mortgage with an expected duration of 7 years will pay a higher yield than a Treasury with a duration of 7 years. Neither one has credit risk, but they have different interest rate risk. MBS investors (say mortgage REITs or hedge funds) will buy mortgages and hedge interest rate risk by selling Treasuries. As interest rates rise, they can get balanced by either selling MBS (which pushes mortgage rates up) or by buying Treasuries (which pushes interest rates up). Whenever you see big moves in rates during a short period of time, you are often seeing convexity hedging exacerbating the move, which is why you will see a retracement in rates after the re-hedging activity finishes. We saw a big move this week as Treasuries broke the 3.1% level. Mortgage rates have shot up as well.

Do credit cycles drive the business cycle or is it the other way around? Historically, business cycles have driven credit cycles. In other words, business dries up, making debt harder to service, which causes banks to retrench and raise cash. The last two cycles however, the credit cycle drove the business cycle. Credit tightened up first, and then the economy rolled over. Is this a new trend? My guess is that it probably isn’t, as the last two economic booms were driven by bubbles in stocks (late 90s) and residential real estate (mid 00s). This time around, asset prices are high, but we don’t have anything comparable to the stock market or real estate bubbles this time around. Your major macro credit risk is that the Fed overdoes it, not that a bunch of debt backed by garbage assets implodes.

Everyone loves ETFs these days. They have low fees, provide instant diversification, and are liquid. In the fixed income market however, the liquidity is probably a bit of an illusion. Corporate bond issuance has soared since the bottom of the cycle in 2012, yet the amount of market-making capacity has been shrunk by 80-90%. The issue for ETF investors is that they expect to have liquidity in these instruments, but in a crisis the underlying assets of these bond funds will experience a tremendous shock. Why? Because Dodd-Frank’s Volcker Rule has essentially ended market-making as a business for banks. Market-making activity means that when everyone wants to sell, the banks who issued these bonds would usually step in and act as the buyer of last resort. This time around, that won’t happen and ETFs will trade at huge discounts to their supposed net asset value. There is no such thing as a financial free lunch, and investors are going to discover the downside of low fees, tight spreads and marginal cost commissions the next time the credit cycle turns.

Morning Report: Housing starts disappoint again

Vital Statistics:

Last Change
S&P futures 2705 -3.5
Eurostoxx index 393.19 0.82
Oil (WTI) 70.93 -0.38
10 Year Government Bond Yield 3.06%
30 Year fixed rate mortgage 4.65%

Stocks are lower this morning after North Korea pushed back on the proposal to end their nuke program. Bonds and MBS are higher after the the 10 year decisively pushed through the 3% level yesterday.

The 10 year hit 3.10% yesterday on no real news. If the inflation numbers aren’t all that bad, why are rates increasing? Supply. The government will need to issue about $650 billion in Treasuries this year compared to $420 billion last year. Note that one of the downsides of protectionism will be seen here – when the US buys imports from China, they usually take Treasuries in return. Less trade means less demand for paper.

Rising rates may present problems for active money managers. The average tenure is 8 years, so this is the first tightening cycle they have ever seen. For the past decade, cash and short term debt have not been any sort of competition for stocks and long term bonds. Note that the 1 year Treasury finally passed the dividend yield on the S&P 500. Stocks and bonds are going to see money managers allocate more to short term debt.

Despite rising rates, financial conditions continue to ease. The Chicago Fed National Financial Conditions Index is back to pre-crisis levels. Note that doesn’t necessarily mean we are set up for another Great Recession – the index can stay at these levels for a long time, and we don’t have a residential real estate bubble. That said, this index can be one of those canaries in a coal mine for investors – at least selling when it goes from negative to positive.

NFCI

Mortgage Applications fell 2.7% last week as purchases fell 2% and refis fell 4%. The refi index is at the lowest level in almost 10 years, and the refi share of mortgage origination is at 36%. The typical conforming rate fell a basis point to 4.76%.

April Housing starts came in at 1.29 million, down 4% MOM but up 11% YOY. The Street was looking for 1.32 million. Building Permits 1.35 million which was right in line with estimates. Multi-family was the weak spot. Note that March’s numbers were unusually strong (relative to recent history), so April was a bit of a give-back.

Industrial production rose 0.7% last month while manufacturing production rose 0.5%. Capacity Utilization rose to 78%.

New York State is suing HUD to force them to continue to use the Obama-era standard of enforcing AFFH. HUD delayed the rule after numerous local governments were unable to implement policies in time.  Andrew Cuomo’s statement: “As a former HUD Secretary, it is unconscionable to me that the agency entrusted to protect against housing discrimination is abdicating its responsibility, and New York will not stand by and allow the federal government to undo decades of progress in housing rights,” Cuomo said in a statement. “The right to rent or buy housing free from discrimination is fundamental under the law, and we must do everything in our power to protect those rights and fight segregation in our communities.”  Of course overt housing discrimination hasn’t existed for half a century, but that isn’t what this is about.  The issue is zoning ordinances and multi-fam construction. Expect to see more of this sort of thing in blue states as the housing shortage gets worse.