Morning Report: TBAs are decoupling from Treasuries

Vital Statistics:

 

Last Change
S&P futures 2919 -96.25
Oil (WTI) 43.46 -2.49
10 year government bond yield 0.73%
30 year fixed rate mortgage 3.3%

 

Stocks are getting clobbered as the flight-to-safety trade takes hold. Bonds and MBS are up. Note we  will have a lot of Fed-speak today, so be aware.

 

Despite the big move upward in bonds (the 10 – year is up about 2 points), TBAs are barely up. The 2.5 coupon is up about 1/4, and the 3s and up are flat. There is a huge push-pull event happening in the TBA market right now.  First, originators who hedge their pipelines with TBAs are getting hit with margin calls, which is causing a bit of a short squeeze in the market. Basically, if an originator can’t make the margin call, the broker will close out their position, and that means buying TBAs to close out the short position. Most lenders have had a call from their friendly TBA broker-dealer already, and you will probably be able to hear the champagne corks popping after we get past Class A settlement next week. People have been white-knuckling it all week.

 

On the other hand, increasing prepay speeds are making the higher note rates less and less attractive. If you buy a 3.5% Fannie TBA, you’ll pay 104. You will get back 100. You are hoping that you get enough coupon payments to cover that premium you paid. As rates fall, that chance of making back that 4% premium you paid becomes less and less. So, even though the 10 year keeps falling, eventually mortgage backed securities will participate less and less in the rally (or at least the higher note rates will). And it looks like we are about there. This is a big relief for mortgage bankers who have full pipelines and want to ring the register. Now, about that servicing portfolio….

 

Margin calls harken back to the bad old days of 2008. Are we experiencing something similar? Emphatically, no. In 2008, we had a collapsing residential real estate bubble, and these are the Hurricane Katrinas of banking. Despite all the fears of a recession, delinquencies are at 40 year lows, and the labor economy remains strong.

 

Speaking of the labor economy, it is jobs day. Jobs report data dump:

  • Nonfarm payrolls up 273,000 (expectation was 177)
  • Unemployment rate 3.5% (expectation 3.6%)
  • Average hourly earnings up 0.3% MOM / 3% YOY
  • Labor force participation rate 63.4%

Overall, a strong report that should take some wind out of the sails of the bond market. Note that this is February’s report, so much of it will be pre-Coronavirus. US corporations are preparing for a mass experiment in remote working, so some of the effects of virus could be relatively well mitigated.

 

Remember yesterday, when I showed the Fed Funds futures prediction and said it was a toss-up between how big of a cut it will be? Well, it still is. Except now it is a toss-up between a 50 basis point cut and a 75 basis point cut. ZIRP by June?

 

fed funds futures

 

Who else is driving the rally in the 10 year? Banks. Banks who hedge their interest rate risk with Treasuries are facing similar issues that mortgage bankers are in the Treasury market. Banks with huge portfolios of mortgage loans will sell the 10 year against it in order to hedge interest rate risk. As rates fall, they will need to buy back some of that hedge. According to JP Morgan, banks need to buy about $1.2 trillion in 10 year bonds to adjust their hedges.

Morning Report: Welcome to 2020

Vital Statistics:

 

Last Change
S&P futures 3251 20.25
Oil (WTI) 61.07 0.04
10 year government bond yield 1.88%
30 year fixed rate mortgage 3.95%

 

Stocks are higher this morning after China eased reserve rates overnight. Bonds and MBS are flat.

 

Announced job cuts (in other words, press releases discussing layoffs) fell to 32,845 in December according to outplacement firm Challenger, Gray and Christmas. “Confidence was high heading into the last month of the year. With some resolutions occurring in the trade war and strong consumer spending in the fourth quarter, companies appear to be taking a wait-and-see approach as we head into 2020,” said Andrew Challenger, Vice President of Challenger, Gray & Christmas, Inc. “The sectors with the highest number of cuts this year were all dealing with trade concerns, emerging technologies, and shifts in consumer behavior. We tracked a lot of hiring activity in these industries as well as cuts,” said Challenger. Separately, initial jobless claims fell to 222k last week.

 

Mortgage Applications fell by 5% as purchases and refis fell by the same amount. “The 10-Year Treasury yield increased [the week ending December 20] amid signs of stronger home building activity and solid consumer spending, leading to a rise in conventional conforming and jumbo 30-year mortgage rates to just under 4 percent,” said Mike Fratantoni, MBA Senior Vice President and Chief Economist. “With this increase, conventional refinance application volume fell 11 percent. Refinance applications for government loans did increase, even though rates on FHA loans picked up. The change in the mix of business has kept the average refinance loan size smaller than we had seen earlier this year.”

 

The Trump Administration is saying that a Phase 1 deal is done, and everyone is waiting on translation. “It’s got great stuff in it,” he [Trade Advisor Peter Navarro] said. “It’s got essentially the same chapter we had in the May deal that the Chinese walked away from on intellectual property theft. So that’s a good deal….For Wall Street … financial market access for the banks, insurance companies and credit card companies,” he added.

 

Happy new year, and here’s to a prosperous 2020, with housing starts above 1.5 million, originations over $2.2 trillion and a 30 year fixed rate mortgage below 3.5%. Hey, it could happen.

Morning Report: Wages increasing especially at the low end

Vital Statistics:

 

Last Change
S&P futures 3242 4.25
Oil (WTI) 62.17 0.44
10 year government bond yield 1.94%
30 year fixed rate mortgage 3.94%

 

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

 

The upcoming week should be relatively quiet with New Year’s right in the middle of the week. Tomorrow, the bond market will close at 2:00 pm as well. The jobs report looks like it will be postponed until next week as well.

 

The USMCA (aka NAFTA 2.0) should help ease the housing shortage in the US by allowing more imports of building materials at cheaper prices. “The U.S. residential construction and remodeling industries rely on tens of billions of dollars in building materials sourced from Mexico and Canada annually because America cannot produce enough steel, aluminum and other materials and equipment to meet the needs of the domestic housing industry,” NAHB said in a statement. FWIW, I don’t know that building materials are the issue – lumber prices are down 33% from the peak in 2018 – but I guess every little bit helps. The biggest constraint is labor and land. And those are more about immigration policy and zoning.

 

lumber

 

Wages are increasing, which reflects a tighter labor market. According to the NY Fed, the average wage rose to a record high of $69,181 in November. Further, wages are rising 4.5% for the bottom 25% and only rising 2.9% for the top 25%. So, definitely good news for the first time homebuyer, who is likely younger and lower paid.

 

 

Morning Report: Jumbo loans remain much cheaper than conforming loans.

Vital Statistics:

 

Last Change
S&P futures 3120 8.25
Oil (WTI) 58.69 0.24
10 year government bond yield 1.81%
30 year fixed rate mortgage 3.94%

 

Stocks are higher this morning on optimism for a trade deal. Bonds and MBS are down.

 

China maintained that tariffs must be cut if there is to be a phase 1 deal before new tariffs go into effect December 15. Chinese officials said the two sides remain in close communication.

 

Despite the weak ADP print yesterday, other labor market indicators look healthy. Outplacement Firm Challenger Gray and Christmas reported that announced job cuts fell 11% MOM and 13% YOY to 44,569. Tech was the biggest sector this month however retail is the leader for the year. Year-to-date, companies have announced 556,000 job cuts versus 1.2 million planned hires. Note that Challenger and Gray only looks at press releases, not actual cuts. Separately, initial jobless claims fell to 203,000 for the holiday-shortened week.

 

The service sector continued to expand, albeit at a slower rate in November, according to the ISM survey. Employment plans accelerated, while production decelerated. “Tariffs are impacting prices for a broad array of products used in the delivery of services and completion of projects for our clients. Upward pressure is impacting suppliers and their pricing to customers. We are seeing no relief from our customers, so we’re being negatively impacted by tariff-driven price increases. Numerous suppliers report looking for alternative manufacturing/supply locations outside of China, but with limited or no success so far.” (Management of Companies & Support Services)

 

The government has ended the limits on VA mortgages, which means veterans can borrow as much as their incomes and credit allow. So theoretically veterans can buy million dollar homes with no money down.

 

Mortgage credit increased in November, according to the MBA, especially in the jumbo space. “Most notably, the jumbo index climbed to yet another record high, as investors increased their willingness to purchase loans with lower credit scores and higher LTV ratios,” said Joel Kan, MBA Associate Vice President of Economic and Industry Forecasting. “Additionally, the government index saw its first increase in nine months, driven by streamline refinance programs.”

 

Speaking of jumbos, the spread between 30 year conforming loans and jumbos remained negative this year, which means jumbo rates are less expensive than conforming rates. This is odd given that conforming loans are government guaranteed and jumbos are not. The spread did rise a bit this year, largely driven by staffing issues. Still, what is going on? According to CoreLogic, an “increase in GSE guarantee fee, a reduction in the GSE funding advantage, and portfolio lenders’ desire to hold jumbo loans explain much of the variation in the jumbo-conforming spread.” The issue of portfolio lenders could be translated to: banks are subsidizing jumbo loans because they are interested in the cross-selling opportunities, especially wealth management services. 

 

jumbo conforming spread.PNG

Morning Report: ADP reports weak payroll growth.

Vital Statistics:

 

Last Change
S&P futures 3104 13.25
Oil (WTI) 57.39 1.54
10 year government bond yield 1.75%
30 year fixed rate mortgage 3.91%

 

Stocks are higher this morning on trade optimism. Bonds and MBS are flat.

 

Mortgage Applications fell 9.2% last week, which contains an adjustment for the Thanksgiving holiday. Purchases increase 1% while refis dropped 16%. Despite the 30-year fixed rate remaining unchanged at 3.97 percent, mortgage applications fell last week, driven down by a 16 percent drop in refinances. Purchase applications were up slightly but declined 24 percent from a year ago. This week’s year-over-year comparisons were distorted by Thanksgiving being a week later this year.”

 

The economy added 67,000 jobs in November, according to the ADP Employment report. The markets are looking for 180,000 new jobs in Friday’s employment situation report, so there is a big disconnect. “In November, the labor market showed signs of slowing,” said Ahu Yildirmaz, vice president and co-head of the ADP Research Institute. “The goods producers still struggled; whereas, the service providers remained in positive territory driven by healthcare and professional services. Job creation slowed across all company sizes; however, the pattern remained largely the same, as small companies continued to
face more pressure than their larger competitors.”

 

Realtor.com forecasts the 2020 market. Punchline: more of the same, where there is strong demand for housing and supply remains low primarily because builders are reluctant and boomers are content to age in place. “After the housing crash in 2008, which wiped out quite a few builders, those who remained have largely focused on higher-end developments with bigger profit margins. Although they’re finally showing signs of a shift toward building more entry-level homes, faced with overwhelming demand, it will take a few years for a significant number to come to market.”

Morning Report: Mortgage rates and the 10 year.

Vital Statistics:

 

Last Change
S&P futures 2915 -6.25
Oil (WTI) 53.07 0.54
10 year government bond yield 1.61%
30 year fixed rate mortgage 3.84%

 

Stocks are down this morning on no real news. Bonds and MBS are down as well.

 

Consumer inflation was flat in September, and is up 1.7% YOY. The core rate, which excludes some volatile commodities, rose 0.1% MOM and 2.4% YOY. Inflation continues to sit right in the range it has been historically.

 

Job openings fell from a downward-revised 7.17 million to 7.05 million, while initial jobless claims ticked up to 214k.

 

Mortgage Applications rose 5.2% last week as purchases fell 1% and refis rose 10%. The rate on a 30 year fixed conforming loan fell 9 basis points to 3.9%. Weaker-than-expected economic data drove the decrease.

 

Good news for the financial community: Trump is planning to sign a couple of executive orders, which will bring more sunlight on rulemaking, and will permit more public input in the federal guidance. Much of this guidance had been “rulemaking in secret” and this will give companies more of a head’s up when the regulatory agencies plan major changes in guidance. The CFPB sprung a nasty surprise on auto lenders during the Obama Administration, where they determined that any lenders who provide auto loans through dealerships are responsible for “discriminatory pricing.” It is this sort of the thing the order intends to limit.

 

“CNBC is saying the 10 year bond yield is way lower, but I just ran a scenario and my borrower still has to pay a point and a half. What is going on?” This is a common observation these days, and it can be frustrating for both loan officers and borrowers. As the Wall Street Journal notes, that the difference between the typical mortgage rate and the 10 year bond is at a 7 year high. What is going on? First, and most important, mortgage rates are not determined by the 10 year. They are determined by mortgage backed securities, which have entirely different financial characteristics than a government bond. When rates are volatile (i.e. changing a lot in a short time period) mortgage backed security pricing will be negatively affected. In practical terms, it means that when the 10 year bond yield abruptly moves lower, it will take a few days for mortgage rates to catch up, while the time it takes to adjust to big upward moves in Treasury rates is often shorter. It also explains why it can be hard to get par pricing when you have a lot of loan level hits from Fannie (i.e. investment property, cash out refinancing, etc). The “rate stack” gets compressed and MBS investors are wary of buying high coupon securities. Bond geeks have a term for this – negative convexity – but in practical terms it means that moves in the 10 year don’t directly carry over to mortgage rates.

 

primary market spreads

Morning Report: Disappointing payroll number

Vital Statistics:

 

Last Change
S&P futures 2819 14.35
Oil (WTI) 53.02 -0.46
10 year government bond yield 2.12%
30 year fixed rate mortgage 4.13%

 

Stocks are higher this morning after yesterday’s rally continued overnight. Bonds and MBS are flat.

 

Fed Chairman Jerome Powell said yesterday that the central bank was monitoring the trade tensions between China and the US and would “act appropriately” to maintain the economic expansion. Investors took this to mean that the Fed would probably cut rates this year. The stock market had its best day in 5 months, and bonds sold off a touch, although lower rates should be supported by low overseas yields and the prospect of a rate cut.

 

Donald Trump announced that he would institute tariffs on Mexican goods if the country didn’t do more to curb illegal immigration into the US. This new front in the trade war was the catalyst to push the 10 year below 2.1%. Yesterday, Republican senators warned that there was not support for tariffs in the Senate.

 

Mortgage Applications increased 1.5% last week as purchases fell 2% and refis increased 6%. “Mortgage rates dropped to their lowest level since the first week of 2018, driven by increasing concerns regarding the ongoing trade tensions with China and Mexico,” said Mike Fratantoni, MBA Senior Vice President and Chief Economist. “Some borrowers, particularly those with larger loans, jumped on the opportunity to refinance, bringing the index and average refinance loan size to their highest levels since early April. Additionally, refinances for FHA and VA loans jumped by 11 percent.”

 

Payrolls only increased by 27k last month according to the ADP Employment Report. Small firms reduced payrolls by 52,000 last month, and it looks like the majority of that was in construction. Manufacturing fell by 3,000 which might be tariff related. The service sector increased employment by 71,000 and large employers increased by 68,000. Street expectations are for a 185,000 increase in payrolls for Friday’s jobs report. Now that the Fed is out of the way, the wage growth number is no longer the focus.