Goldman Sachs – The Daily Tearsheet

Morning Report: Goldman sees a break in the clouds

Vital Statistics:

	Last	Change
S&P futures	3109	5.25
Oil (WTI)	58.39	0.24
10 year government bond yield		1.76%
30 year fixed rate mortgage		3.93%

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

Existing home sales rose 1.9% in October, better than expected. Lawrence Yun, NAR’s chief economist, said this sales increase is encouraging and he expects added growth in the coming months. “Historically-low interest rates, continuing job expansion, higher weekly earnings and low mortgage rates are undoubtedly contributing to these higher numbers,” said Yun. “We will likely continue to see sales climb as long as potential buyers are presented with an adequate supply of inventory.” The recent increase in building permits is seen as a positive sign for the sector. Inventory remains tight, however at only a 3.9 month supply. Note that D.R. Horton just reported a 9% increase in units sold, so we are seeing more supply come on to the market.

The index of leading economic indictators fell 0.1% in October, driven by weakness in manufacturing. This points to slowing growth ahead.

Despite the LEI numbers, Goldman is predicting a “break in the clouds” for the economy going forward. They anticipate a 30 basis point pickup in global growth next year to 3.4%, and for the US economy to grow at a 2.3% pace. “We expect the global growth slowdown that began in early 2018 to end soon, in response to easier financial conditions and an end to the trade escalation,” the forecast said. “Although much could still go wrong, the news on trade policy – both US-China and issues related to Brexit – has gotten better in recent weeks.” They anticipate the 10 year bond yield will rebound to 2.25%.

Morning Report: Homebuilder sentiment sinks

Vital Statistics:

	Last	Change
S&P futures	2674	-22
Eurostoxx index	353.27	-1.53
Oil (WTI)	57.07	-0.13
10 year government bond yield		3.06%
30 year fixed rate mortgage		4.89%

Stocks are lower as yesterday’s sell-off continues through the global markets. Bonds and MBS are up.

Yesterday, the bond market rallied (rates fell) while we saw almost no movement in TBAs. What is going on? In technical terms, the basis increased. The basis is the difference in yields between the mortgage backed security and the risk free rate (measured by Treasuries). What drives the basis? Probably the biggest driver is interest rate volatility, which has been increasing. Mortgage Backed Securities are a bit different than normal bonds – they have negative convexity, which means they pay a little more than Treasuries with the same credit risk (i.e. none) but they have higher interest rate risk instead. MBS hate, hate, hate volatility in the bond markets, which is why you will sometimes see the 10 year yield down 3 or 4 basis points, excitedly run a scenario expecting to see an improvement, and get bupkis.

The issues in the market are beginning to affect the Fed Funds futures, which are now predicting a 68% chance of a hike in December. That estimate was closer to 80% a month ago.

Goldman believes growth will slow to the low 2% range for the first half of next year, and then drop to the high 1% range for second half. Their belief is that the Fed will succeed in slowing the economy, without sending it into a recession. The fiscal stimulus from tax cuts will be fading as well. FWIW, the experts and strategists consistently overestimated what growth would be in during the Obama administration and are consistently wrong to the downside since Trump became elected. If Goldman is right, expect the yield curve to flatten.

Homebuilder sentiment weakened in October, according to the NAHB / Wells Fargo housing sentiment index. Labor shortages and declining traffic are the culprits. The index fell from 68 to 60, which was the biggest drop in years. While an index level over 50 indicates favorable conditions, the sentiment that has driven the homebuilder XHB down 25% this year has finally begun to hit the builders themselves.

The sell-off in the stock market has been particularly harsh on the erstwhile darlings – the FAANG stocks. These stocks have entered a bear market (defined as 20% or more lower from the highs). Remember Bitcoin? About one year ago, it made its meteoric rise from roughly 7,000 to 20,000 in the span of 3 weeks. Where is it now? Under $4,500 and unable to get out of its own way.

Morning Report: Oil stumbles badly, rates fall

Vital Statistics:

	Last	Change
S&P futures	2724	3
Eurostoxx index	362.85	-1.64
Oil (WTI)	55.92	0.23
10 year government bond yield		3.13%
30 year fixed rate mortgage		4.97%

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

Mortgage applications fell 3.2% last week as purchases fell 2.3% and refis fell 4.3%. It has been a long, cold winter for the origination business over the past 6 quarters or so. You can look at the chart of the MBA mortgage application index to get an idea of just how tough it is out there right now.

Home prices rose 0.4% MOM and 5.6% YOY in September, according to the CoreLogic home price index. Prices rose the least in the hottest markets, as affordability issues bite. CoreLogic did a study of Millennial attitudes, and less than half think they would qualify for a mortgage, which is interesting given that FHA and GSE low down payment programs are targeted towards the first time homebuyer and are very forgiving in terms of FICO and downpayments. The industry can benefit from doing some education here.

30 day delinquencies fell 0.6 percentage points to 4% in August. The foreclosure rate fell 0.1% to 0.5%. DQs are at the lowest level in 12 years. CoreLogic estimates that 1/3 of all MSAs are overvalued. Unfortunately, not all MSAs are created equal – there are a lot more people in the overvalued MSAs like San Francisco and Washington DC than there are in the some of the undervalued MSAs in the Midwest and Northeast. The overvalued MSAs will be most vulnerable to economic shocks.

Oil has been in a downward spiral, hitting the lowest levels in a year on fears of oversupply. It sounds like the hedge funds, CTAs and speccies have been long and wrong and are now capitulating. Note that commodity prices are often the canary in the coal mine with respect to global growth, and other cyclical commodities like lumber and copper are following suit.

Goldman sees unemployment falling to 3% within the next 18 months or so. Goldman also sees another 125 basis points in Fed hikes during this cycle.

Morning Report: Markets now predicting a 50% chance of 4 hikes this year

Vital Statistics:

	Last	Change
S&P futures	2724	-6.25
Eurostoxx index	393.28	1.09
Oil (WTI)	71.74	0.78
10 Year Government Bond Yield		3.04%
30 Year fixed rate mortgage		4.57%

Stocks are lower this morning on earnings and retail sales. Bonds and MBS are down on hawkish comments out of Europe.

Retail Sales rose 0.3% in April, according to Census. The control group rose 0.4%. Both numbers were in line with consensus estimates. There is a push-pull effect in the numbers as tax cuts will encourage spending, while higher gas prices will depress it.

Speaking of retail sales, comps at the Home Despot came in lower than expected, although some of that was weather-related. The company noted that traffic in May has been strong. As home affordability gets worse, home improvement projects generally increase as people renovate instead of moving to a nicer home. The builders (and mortgage originators) have noted that the Spring Selling Season has been a dud this year.

The Empire State Manufacturing Survey came in at 20, higher than expected, while homebuilder sentiment improved to 70. Strong pricing is being offset by weak traffic, particularly among the first time homebuyer. Separately, inventories were flat in March, which will probably cause some houses to take down their estimate for first quarter GDP growth.

What would happen if you listed your home at $1? Would the subsequent bidding war get you to the correct price? It certainly would create a huge buzz around your home and that will probably help. That said, there are problems associated with that tactic. First, you will get all sorts of low-ballers who will only clog up the process. More importantly, the sites like Realtor.com, Zillow etc generally have searches with price ranges. In other words, if you expect your house to be worth $500,000 and you list it for $1, it won’t show up if the buyer sets a $400,000 – $600,000 search range.

HUD is seeking comment on the Supreme Court’s Disparate Impact ruling and whether HUD’s current policy is consistent with the ruling. Disparate Impact means that you can get slammed for discrimination even if you didn’t intend to discriminate, but your numbers are not consistent with the population.

The Fed Funds futures now are handicapping a 50% chance of 4 rate hikes this year.

A combination of higher budget deficits and low unemployment has Goldman predicting a 3.6% 10 year yield by the end of 2019. This is the first time since WWII when we have had a combination of increasing deficits and falling unemployment. “”The sizeable demand boost provided by the recent deficit-increasing tax cuts and spending cap increases at a time when the economy is already somewhat beyond full employment is a striking departure from historical norms that is likely to contribute to further overheating this year and next and tighter monetary policy in response.” Of course the labor force participation rate is quite low, as is the employment-population ratio, two numbers that are not captured by the unemployment rate. Until you start to see wage inflation, the Fed will be content to go slow.