Morning Report: The Fed’s balance sheet will probably never return to pre-crisis levels.

Vital Statistics:

 

Last Change
S&P futures 2896 -2.5
Eurostoxx index 388.12 0.58
Oil (WTI) 64.46 0.06
10 year government bond yield 2.52%
30 year fixed rate mortgage 4.16%

 

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

 

Factory Orders fell 0.5% in February, while January was revised downward to no change. Core Capital Goods Orders (which is a proxy for business capital expenditures) fell 0.1% after unusually strong readings in January and December.

 

Small Business Optimism increased in March, according to the NFIB Small Business Optimism Survey. Hiring indicators improved (companies added .5 workers on average), the earnings outlook brightened, and capital expenditures were steady. The only negative was an inventory build.

 

House flipping is back to pre-crisis levels. Profit margins are much higher however, which should provide a bit of a cushion if home price appreciation tails off. The type of property is generally older – a fix and flip – which is dominated by professionals, not neophytes. Those were the type who would purchase rights to buy a new construction condo and then hope to sell the right at a profit.

 

Margin compression and lower volumes has meant job losses in the nonbank mortgage sector. Nonbank lenders employed 320,000 people in February, which is a drop of about 20,000 jobs from August.

 

30+ day delinquencies fell to 4% in January, which is a drop from 4.9% in January of 2018. The foreclosures rate fell to 0.4% from 0.6%. Delinquency rates fell across the entire spectrum of buckets, and are at the lowest levels in 20 years. Interestingly, DQ rates for student loans and auto loans are up.

 

Good explainer on quantitative easing and why the Fed doesn’t want to return to pre-crisis levels for its balance sheet. Changes in the way banks manage their reserves, along with rising global demand for dollars has made a larger Fed balance sheet a necessity. The mechanics of rate setting involve setting the interest they pay on bank reserves, and in order to do that, they need a large level of reserves in the banking system. These reserves are the Fed’s liabilitites, and if the liabilities need to increase, the assets will have to move up in lockstep. Hence the need to maintain a bigger balance sheet.

 

Note that the equity value of the Fed’s balance sheet is largely unchanged, which means the Fed is vulnerable to a fast uptick in interest rates. This is because rising interest rates will negatively affect the value of its bond portfolio (bond values fall as rates rise). The Fed has about $3.9 billion in assets, supported by $39 billion in equity. In other words, a 1% drop in their asset portfolio would wipe out their equity. While that is a distinct possibility for their long-term bond holdings, it is highly unlikely for their short term bond holdings. That said, the Fed does operate with a 100:1 leverage ratio and historically that level has been deadly for institutions that don’t own a printing press.

 

Federal Reserve Assets

 

 

 

 

Morning Report: The Trump Administration pushes for lower rates.

Vital Statistics:

 

Last Change
S&P futures 2893 -2.75
Eurostoxx index 388.4 0.22
Oil (WTI) 63.35 0.27
10 year government bond yield 2.50%
30 year fixed rate mortgage 4.17%

 

Stocks are flattish this morning as the Trump Administration and China get closer to a trade deal. Bonds and MBS are up.

 

This week will be relatively data-light, although we will get inflation data on Wednesday and Thursday. Fed Head Jerome Powell will speak to Democrats at their annual retreat. I doubt there will be anything market-moving in Powell’s speech, but you never know.

 

Lennar is making a big bet on entry-level homebuyers, launching new communities with prices in the mid $100,000s. The homes range from 1200 – 2200 square feet and are on 40 foot lots. Prices range from $162,000 – $200,000.

 

Former Kansas City Fed Chief and restaurateur Herman Cain is currently being vetted by the Trump Administration for a Fed post. He has some allegations of sexual misconduct, and so far most Republicans are in wait and see mode during the process. Over the weekend, Larry Kudlow and Mick Mulvaney stressed that the two nominations were “on track.”

 

Donald Trump said the economy would “take off like a rocket ship” if the Fed cut rates. He also criticized the “quantitative tightening” – i.e. reducing the Fed’s balance sheet. His feelings about monetary policy are natural – there isn’t a politician alive who doesn’t prefer lower rates to higher rates, but his constant criticism is something new. That said, there is a partisan bent to monetary policy. Republicans fret about monetary policy being too loose when Democrats are in charge, and Democrats are less dovish when Republicans are in charge. Both sides want the economy to be weak when their rivals are in charge.

 

Did the Fed overshoot? It is hard to say, since this was really one of the first times the Fed started tightening without a real inflation problem. The point of tightening was advertised as a preventative move to prevent inflationary pressures from building, but the real reason was to get off the zero bound. 0% interest rates are an emergency measure, and emergency measures aren’t meant to be permanent. Interest rates at the zero bound also cause all sorts of distortions in the markets, and build risks into the system. Given that the economy was strengthening, the Fed took advantage of the opportunity to get back closer to normalcy. Would the economy be faster if the Fed wasn’t tightening? Probably. However some of that is going to be determined by global growth, and Europe is not doing well.

 

Monetary policy acts with about a year’s lag, so the June, September, and December hikes from last year still have yet to be felt. Nobody is predicting a recession, but the 2018 hikes are going to sap growth a little this year. I would be surprised if it slowed down the economy enough to prod the Fed to cut rates. Note that the NY Fed raised its Q2 growth estimate to 2% from 1.6%.

 

Finally, even if the Fed raises rates, overall long-term interest rates can stay low for a long, long time. Interest rates went below 4% during the Hoover Administration and didn’t get back above that level until the Kennedy Administration. So, it could be a long time before we ever see a 4% 10 year yield.

 

100 years of interest rates

 

 

Morning Report: Lowest initial jobless claims since the 1960s.

Vital Statistics:

 

Last Change
S&P futures 2878 -0.75
Eurostoxx index 387.8 -1
Oil (WTI) 62.72 0.26
10 year government bond yield 2.50%
30 year fixed rate mortgage 4.20%

 

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

 

Mortgage Applications increased 18.6% last week as rates fell. The purchase index rose 3% while the refi index rose 39%. The refi share increased to 47% of total applications.  “There was a tremendous surge in overall applications activity, as mortgage rates fell for the fourth week in a row – with rates for some loan types reaching their lowest levels since January 2018. Refinance borrowers with larger loan balances continue to benefit, as we saw another sizeable increase in the average refinance loan size to $438,900 – a new survey record,” said Joel Kan, MBA’s Associate Vice President of Economic and Industry Forecasting. “We had expected factors such as the ongoing strong job market and favorable demographics to help lift purchase activity this year, and the further decline in rates is providing another tailwind. Purchase applications were almost 10 percent higher than a year ago.” Separately, Black Knight said that last week’s drop in rates increased the refinanceable mortgage pool by 50%.

 

The ISM non-manufacturing index slipped in March, although it is still quite strong. One of the comments from the report mentioned residential construction: “While we have a slowed down in residential service and install [area], we are still experiencing strength in the new commercial construction area.” (Construction) Another: “April is when our real busy season begins and it has arrived early this year, demand is quite strong.” (Real Estate, Rental & Leasing). Others mentioned that the labor market remains tight“Labor is tight and in short supply.” (Accommodation & Food Services)

 

Initial Jobless Claims fell to 202,000 last week, so despite the weak ADP print, the labor market still looks strong. For those keeping score at home, this was the lowest print in 50 years. To put that in perspective, the last time we had that few initial jobless claims, the population was 33% lower and we had a military draft.

 

Home prices are falling in the markets that led the way off the bottom. MSAs like the Bay Area, Nashville, Austin, and Florida are experiencing declines as listings surge. On the other hand, the lagging markets are finally having their day. Unloved markets like Milwaukee WI and Rochester NY are experiencing double digit increases.

Morning Report: Disappointing ADP print

Vital Statistics:

 

Last Change
S&P futures 2883 13.25
Eurostoxx index 384.71 1.04
Oil (WTI) 62.04 0.65
10 year government bond yield 2.51%
30 year fixed rate mortgage 4.17%

 

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

 

ADP reported that the private sector created 129,000 jobs in March. Education and health reported the biggest increase, while the financial sector and the construction sector cut jobs. The Street is looking for 170,000 new jobs in Friday’s employment situation report. The Street will look at the payroll number, but the more important one is the average hourly earnings number. The Street is forecasting a 0.3% MOM and 3.4% YOY gain.

 

Construction spending rose 1% in January, and is up 1% on an annual basis. Residential construction rose 1% on a MOM basis, but is down 3.6% YOY. Construction spending was probably affected at least somewhat by the partial government shutdown at the end of last year / beginning of this year.

 

The manufacturing sector continues to do well, with the ISM Manufacturing Index hitting 55.3 in March. New Orders, Production, and Employment were the drivers of the increase. I found this comment interesting: “Business remains very strong amid rumors of a slowdown, but forecasts do not indicate this. Electronics are at tight capacity from manufacturers, with no [change] in the near future.” (Transportation Equipment) The transportation sector touches most parts of the economy, so it has always been the equivalent of the canary in a coal mine. But overall, this report isn’t showing any signs of economic weakness.

 

Durable Goods orders however did show some weakness. Durable Goods orders fell 1.6% in February, however they were up slightly when you strip out the volatile transportation sector. Core Capital Goods (a proxy for business capital expenditures) fell slightly. January’s numbers were revised upward, so the report isn’t as bad as it initially appears.

 

Ron Wyden wants your unrealized capital gains to be taxed every year. This is more or less an Overton Window widening exercise and has a less than zero percent chance of gaining mainstream Democratic support, let alone Republican support. He would also increase the capital gains tax to 37%. It would be like the government assessing you every year on the increase Zillow reports for your home and sending you a bill for 37% of it. The final plan will probably exempt your primary residence, but still – it would force you to sell investments you may not want to sell in order to pay the tax.

 

Further, in the political space, Elizabeth Warren is taking a victory lap after Wells Fargo CEO Tim Sloan’s retirement. She is pushing for laws to make it easier for the government to prosecute corporate executives who don’t have firsthand knowledge of crimes their subordinates are doing.

 

That was quick: After a big open on Friday, Lyft is now trading below its IPO price. The big gains seem to be reaped pre-IPO anymore, when the company is revalued at each funding round. By the time it hits the IPO phase, it is priced for perfection. Remember, Blue Apron, which went public at $10 a share during the summer of 2017? It is now a drill bit.

 

 

Morning Report: New home sales increase

Vital Statistics:

 

Last Change
S&P futures 2857 20
Eurostoxx index 382.42 3.33
Oil (WTI) 60.79 0.65
10 year government bond yield 2.44%
30 year fixed rate mortgage 4.10%

 

Stocks are higher this morning as we kick off the second quarter. Bonds and MBS are down.

 

We have a lot of data this week, and some could be market-moving. The biggest report will be the employment situation report on Friday, however we will get durable goods, construction spending, and ISM data.

 

Retail Sales in February fell 0.4%, which was well below the Street expectations of a 0.4% gain. That said, January’s numbers were revised upward from 0.9% to 1.4%. Separately, personal incomes increased 0.2% in February, while personal expenditures rose 0.1%. Inflation remained below the Fed’s target with the PCE index down 0.1% on a MOM basis and up 1.4% on a yearly basis. Ex-food and energy, the PCE index was up 1.8%. For 2018, personal incomes rose 4.5%, while personal spending rose 4.4%.

 

New Home Sales came in at a seasonally adjusted level of 667,000, which beat the Street estimate of 615,000. This is up 4.3% from the revised January number and about flat on a YOY basis. New Home Sales is a notoriously volatile series, and the margin for error is generally huge. While new home sales have recovered from the bottom, we are still at 50% of peak levels, and when you take into account population growth, we are still well below what is needed.

 

new home sales

 

Pending home sales slipped in February, according to NAR. Lawrence Yun, NAR chief economist, said February’s pending home sales decline is coming off a solid gain in the prior month. “In January, pending contracts were up close to 5 percent, so this month’s 1 percent drop is not a significant concern,” he said. “As a whole, these numbers indicate that a cyclical low in sales is in the past but activity is not matching the frenzied pace of last spring.”

 

Wells Fargo CEO Tim Sloan is out. The bank was unable to put its scandals behind it, and Democrats like Elizabeth Warren were calling for the Board to fire him. He decided to retire at age 58. “This was my decision based on what I thought and believe is the best for Wells Fargo, because there has just been too much focus on me,” Sloan said. “And it’s impacting our ability to move forward. I just care so much about this company and so much about our team that I could not keep myself in a position where I was becoming a distraction.”

 

Despite the action in the Federal Funds market and the dot plot, the Fed doesn’t seem to be ready to start cutting rates. Even dovish Minneapolis President Neel Kashkari is reluctant to ease monetary policy. For the most part, the Fed seems to view the recent economic weakness as influenced by the partial government shutdown and is anticipating a recovery.

Morning Report: Final estimate for fourth quarter GDP

Vital Statistics:

 

Last Change
S&P futures 2811.75 1.25
Eurostoxx index 375.78 -1.45
Oil (WTI) 59.49 -0.45
10 year government bond yield 2.38%
30 year fixed rate mortgage 4.08%

 

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

 

Fourth quarter GDP was revised downward to 2.2% in the third and final estimate. Inflation came in at 1.5%. This is more ammo for the Fed to possibly cut rates this year.

 

GDP

 

Initial Jobless Claims came in at 211k last week. Despite the slowdown in economic activity, employers are hanging on to their workers. Speaking of labor, McDonalds will no longer lobby against minimum wage hikes. It probably is safe for McDonalds – their franchisees bear the brunt of labor costs not corporate. At any rate, I’m not sure that Republicans really need a lobbyist to tell them to oppose minimum wage hikes, but companies seem more interested in placating the social justice mob these days than delivering shareholder returns.

 

Facebook has been charged with housing discrimination based on algorithms that target housing-related ads. “Facebook is discriminating against people based upon who they are and where they live,” HUD Secretary Ben Carson said in a statement announcing the charges of violating the Fair Housing Act. “Using a computer to limit a person’s housing choices can be just as discriminatory as slamming a door in someone’s face.”

 

The White House has released a memorandum on housing reform. There were no discernible policy changes in it – the government would like to decrease the GSE’s footprint in the mortgage market while maintain the 30 year fixed rate mortgage and affordable housing goals. They did mention the goal of getting more banks doing FHA loans, although the capital treatment of servicing rights probably makes that tough. Fannie Mae stock liked the release, rallying 9%.

 

The Washington Post has run something like 4 anti Steven Moore editorials in the past few days. The economics establishment really doesn’t like the nomination. Don’t forget one thing, though. While it is generally not a good thing when politicians criticize monetary policy (and Trump / Moore were pretty outspoken about it), the action in the Fed Funds futures and the change in the dot plot shows they were right.

Morning Report: Sea change in market expectations

Vital Statistics:

 

Last Change
S&P futures 2815.75 -7.25
Eurostoxx index 375.78 -1.45
Oil (WTI) 59.49 -0.45
10 year government bond yield 2.38%
30 year fixed rate mortgage 4.08%

 

Stocks are lower on no real news. Bonds and MBS are up again.

 

Independent mortgage banks reported a loss of $200 per loan on average in the fourth quarter of 2018, according to the MBA. This is a drop from the $480 per loan they earned in the third quarter. This works out to be about an 11 basis point production loss per loan. In the fourth quarter of 2017, independent mortgage banks earned 20 basis points. This 11 basis point loss is the lowest since the MBA began keeping tabs on this about 10 years ago. Declining secondary marketing income was met with increasing production costs. The first quarter this year probably looks just as bad, and servicing portfolios are going to be taking a mark-to-market hit as interest rates have unexpectedly fallen. Many banks use their MSR portfolio as a natural hedge for their core business, but there will be a lag so Q1 looks to be similar to Q4.

 

That said, we did see a spike in applications last week, as they rose 8.9%. Purchases rose 6% and refis rose 12% as rates fell.

 

Donald Trump’s nominee to the Federal Reserve Board Steve Moore has called for the Fed to cut rates 50 basis points immediately. He came under criticism (and apologized) for calling for Jerome Powell’s resignation after the Fed hiked rates again in December. FWIW, left econ is pretty bent out of shape over his nomination (the Washington Post penned 2 editorials against him yesterday), mainly for his support of tax cuts, deregulation, and free markets. In an interview with the New York Times, he said “I was really angry” about the December increase, Mr. Moore said. “I was furious — and Trump was furious, too. I just thought that the December rate increase was inexplicable. Commodity prices were already falling dramatically.” Remember Trump criticized the cuts (and was beaten about the head and shoulders in the business press over it). That said, back in December, the markets thought the Fed would raise rates twice this year. They are now predicting at least 1 cut this year. Take a look at what the Fed Funds futures are saying below. Just one month ago, the market was assigning a 81% chance that the Fed would do nothing this year. Now, there is roughly a 75% chance of at least one rate cut. The swing in sentiment is pretty dramatic.

 

fed funds futures dec 19

 

Note that the yield curve has inverted, although that is mainly due to the high 3 month rate. 2s – 10s is still positive.

 

While we have seen a marked deceleration in home price appreciation according to Case-Shiller, the FHFA House Price index still shows decent growth. It increased 5.6% annually in January.  Since the FHFA index only looks at homes with conforming mortgage, it ignores the jumbo space, and that is where we are really seeing the weakness in home prices. Regionally, the West and Mountain states have really slowed down, and the lagging markets in the Mid Atlantic area (especially the NYC area) are finally showing signs of life. You can see the dispersion between 2017 (blue) and 2018 (red) has really decreased as the correlation tightens.

 

FHFA regional

Morning Report: Fed decision day

Vital Statistics:

 

Last Change
S&P futures 2851 -1.25
Eurostoxx index 382.92 2.82
Oil (WTI) 58.48 0.39
10 year government bond yield 2.60%
30 year fixed rate mortgage 4.27%

 

Stocks are higher this morning as we begin the FOMC meeting. Bonds and MBS are flat.

 

The FOMC decision is set to be announced at 2:00 pm EST. Be careful locking around that time. They aren’t going to raise interest rates, but the focus will be on the dot plot and their interest rate forecast for 2019. There will also be interest in the size of the balance sheet, but it won’t be market moving.

 

The stock market has been rallying on hopes that the Fed will be taking 2019 off. Note that FedEx reported disappointing numbers, which is a canary in the coal mine for the global economy. The stock and bond markets have been sending different signals about the economy, with the stock market rising (signalling strength) and interest rates falling (signalling weakness). Part of this has been due to global growth concerns – especially in Europe and China. Global weakness doesn’t necessarily translate into a recession for the US, but it is a reach to think it won’t affect us at all.

 

Mortgage Applications rose 1.6% last week as purchases rose 0.3% and refis increased 4%. Mortgage rates drifted lower and are at the cheapest in a year.

 

The NAHB / Wells Fargo Housing Market Index was flat at 62 as we kick off the Spring Selling Season. Sales ticked up, but traffic is way down. Overall, the new home sales market is similar to where we left off in fall. We will get a read on existing home sales this Friday. We are seeing some evidence of cooling in housing markets, especially in the Northeast. According to the Redfin competitive numbers, places like Greenwich CT are at 9 on a scale of 1 – 100. Even erstwhile hot markets like San Diego have been cooling. The heat is in the laggard markets, with places like Harrisburg PA and Indianapolis doing very well.

 

greenwich

Indianapolis

 

Morning Report: Gap between appraisals and homeowner perception widens slightly

Vital Statistics:

 

Last Change
S&P futures 2802 5
Eurostoxx index 374.06 0.81
Oil (WTI) 57.27 0.47
10 year government bond yield 2.62%
30 year fixed rate mortgage 4.28%

 

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

 

Inflation at the wholesale level came in below expectations, mirroring the consumer price index. The headline PPI rose 0.1% MOM / 1.9% YOY. Ex-food and energy the index rose 0.1% / 2.5% YOY.

 

Mortgage Applications rose 2.3% last week as purchases rose 4% and refis fell 0.2%. The MBA noted an uptick in FHA activity. “Purchase applications have now increased year-over-year for four weeks, which signals healthy demand entering the busy spring buying season. However, the pick-up in the average loan size continues, with the average balance reaching another record high. With more inventory in their price range compared to first-time buyers, move-up and higher-end buyers continue to have strong success finding a home.” said Joel Kan, MBA Associate Vice President of Economic and Industry Forecasting.

 

The gap between a homeowner’s perception of their home’s value and the number that the appraiser comes up with is starting to widen a touch. The Quicken Home Price Perception Index fell slightly in February, although the difference between perception and appraisal is pretty tight historically. For most MSAs, appraisals are coming in higher than homeowners expect, which is good news for the cash-out refi business. Given the direction in interest rates, home price appreciation is going to drive refi activity going forward.

 

Quicken HPPI

 

Wells Fargo CEO Tim Sloane appeared before the House yesterday to get called on the carpet for aggressive sales practices. “We have gone above and beyond what is required in disclosing these issues in our public filings, we have worked to remedy these issues, and, most importantly, we have worked to address root causes that allowed them to occur in the first place,” Sloan said in his written testimony to the House Financial Services Committee. “As a result, Wells Fargo is a better bank than it was three years ago, and we are working every day to become even better.” he said in a written statement.

Morning Report: New home sales surprise on the upside

Vital Statistics:

 

Last Change
S&P futures 2786.75 -4
Eurostoxx index 376.51 0.03
Oil (WTI) 56.07 0.4
10 year government bond yield 2.70%
30 year fixed rate mortgage 4.43%

 

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

 

The economy added 183,000 jobs in February, according to the ADP Employment Survey. The Street is looking for about 180,000 additions in Friday’s employment situation report, so the ADP numbers seem to be in line.

 

Mortgage applications decreased 2.5% last week as purchases fell by 2.6% and refis fell 2%. The typical mortgage rate rose by 2 basis point to 4.67%.

 

The ISM non-manufacturing index expanded in February, which means that the services sector is picking up momentum.  The biggest issues seem to be potential trade issues, labor shortages and trucking costs.

 

New Home Sales rose by 621,000 in December. This is up 3.7% from the downward-revised November number, but down 1.5% from a year ago. For the full year, 622,000 homes were sold, which is slightly higher than the 613,000 sold in 2017. The median price was $318,000, while the average price was $377,000. The median sales price has been declining over the past year after peaking in November 2017 at $343,400. This demonstrates the shift from luxury to entry-level home construction to meet demand. This is a reversal of the early years of the crisis, when the luxury end of the market was the only part that was working.

 

Note that new home sales are about where they were during the 60s – 80s. Pretty amazing when you take into account that the US population has increased by close to 60% since 1970.

 

new home sales

 

Here is a copy of the letter that NAR, MBA, and a host of other housing advocates sent to Joseph Otting, Acting Director of the FHFA regarding GSE reform. It urges FHFA to go slow, work to maintain the 30 year fixed rate mortgage, and allow the GSE’s to act as a counter-cyclical buffer.

 

The Fed is catching up to the markets. Boston Fed President Eric Rosengren said it could be “several meetings” before the Fed gets enough clarity on the economy to make a move in interest rates. In many ways, he is acknowledging what the Fed Funds futures have been saying for a while now – that the Fed is going to wait and see how the 2018 hikes affect the economy before making any further moves. Since monetary policy generally acts with a 9 – 15 month lag, it means that the economy still hasn’t factored in the Sep and Dec hikes from last year.