Personal Spending – The Daily Tearsheet

Morning Report: Looks like the Fed tightening cycle is winding down

Vital Statistics:

	Last	Change
S&P futures	2730.25	-14
Eurostoxx index	356.36	-1.74
Oil (WTI)	50.5	-0.96
10 year government bond yield		3.01%
30 year fixed rate mortgage		3.85%

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

The minutes from the November FOMC meeting were released yesterday, and they said nothing all that interesting. Bonds, which had been supported by Powell’s comments on Wednesday ticked up slightly. The media seemed to take the minutes as dovish, but there really wasn’t any sort of statement that jumped out.

Initial Jobless Claims increased by 10k to 234,000.

Personal incomes rose by 0.5% in October, and consumption rose by 0.6%. Those were extremely strong numbers, and support the idea that Q4 is going to be strong as well. It was also a bit of a Goldilocks report, with the personal consumption expenditures inflation reading sitting right at the Fed’s target rate, with the core rate (ex-food and energy) rising 1.8%.

The Fed Funds futures are pricing in a December hike as a pretty much a sure thing, and then have coalesced around the forecast that we get one more hike in 2019. In other words, we are in the late stages of this hiking cycle. Note that monetary policy acts with about a year’s lag, so we haven’t really begun to feel the hikes from this year. Below is the implied probability chart for the December 2019 Fed Funds futures.

Pending Home Sales fell 2.6% in October, according to NAR. For those keeping score at home, this is the 10th straight drop, and demonstrates the issues of higher home prices and mortgage rates. All regions experienced declines, and the West was hit particularly hard as home prices have experienced double-digit increases for years. Something has to give in the real estate market – either prices have to stabilize, interest rates have to fall, or incomes have to rise. Given the personal income numbers and other anecdotal data, rising wages will probably end up squaring the circle.

Morning Report: QE portfolio drops below $4 trillion

Vital Statistics:

	Last	Change
S&P futures	2909	-10.5
Eurostoxx index	382	-4.4
Oil (WTI)	72.1	0.02
10 year government bond yield		3.03%
30 year fixed rate mortgage		4.74%

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

Personal incomes rose 0.3% in August, as did personal spending. The inflation numbers came in a little tamer than expected, with the headline number up 2.2% and the core number up 2%, right in line with the Fed’s target.

The Fed’s holding of Treasuries and MBS (relics of the QE and Operation Twist days) have dropped below $4 trillion. Total Assets at the Fed are still around $4.2 trillion, compared to pre-crisis levels below $1 trillion.

Jerome Powell suggested that the Fed is going to return to its more typical opaque posture with respect to the markets. In the aftermath of the crisis, the Fed became very open about its intentions and policies, and often seemed to follow the markets. This is a sensible posture when the economy is fragile, but the financial crisis is probably far enough in the rear view mirror that the Fed can start returning to normalcy. If Janet Yellen’s handholding of the markets was one extreme, Alan Greenspan’s Fed raising the Fed Funds rate 50 basis points at a surprise Saturday meeting was the other.

The SEC has is suing Elon Musk for issuing “false and misleading statements” and failing to notify regulators of material company changes relating to the ill-fated 420 tweet. On August 7, Elon tweeted “Am considering taking Tesla private at $420. Funding secured.” Tesla stock rallied on the announcement and then sold off as investors figured out it wasn’t as solid as it initially appeared. The SEC complaint is fascinating reading – the Board of Directors was blindsided by this, and I think it never dawned on Elon what the implications of that tweet would be. Essentially, he had initial talks with a large Middle Eastern investor who was interested in taking a strategic stake in Tesla. No price, percentage stake or other specifics were mentioned. Elon arrived at the $420 price by applying a 20% takeover premium to Tesla’s existing share price (which came to $419) and then rounded up to $420.

From the complaint: “According to Musk, he calculated the $420 price per share based on a 20% premium over that day’s closing share price because he thought 20% was a “standard premium” in going-private transactions. This calculation resulted in a price of $419, and Musk stated that he rounded the price up to $420 because he had recently learned about the number’s significance in marijuana culture and thought his girlfriend “would find it funny, which admittedly is not a great reason to pick a price.”

Elon never thought through any of the regulatory conditions, financing conditions, legal issues, how retail investors would have to be treated, etc before making the tweet, which was probably meant to stick it to short sellers. Tesla’s stock is down about 30% from its peak, and is a classic example of what happens when cult stocks stumble. As an aside, when company CEOs get into public wars with short sellers, that is generally not a bullish sign.

One of the remedies will be to ban Musk from ever serving on the Board of Directors of a public company, and he will certainly face civil suits from people who bought TSLA in the aftermath of the tweet, before the relevant information came out. Suffice it to say, this is one of the biggest corporate brain farts I have seen since Martha Stewart went to the big house (and lost about $1 billion in wealth from MSO’s stock decline) in order to prevent $60,000 in losses on IMCL stock.

In the aftermath of the US housing bubble, massive coordinated central bank easing has led to bubble conditions in six large cities: Hong Kong, Munich, Toronto, Vancouver, London and Amsterdam. Extreme overvaluation exists in Stockholm, Paris, San Francisco, Frankfurt and Sydney. Who knows when these bubbles will burst, but when they do, it will tend to pull rates lower, despite what the Fed is doing to short rates.

Morning Report: Self-Employed Borrowers get some help from Congress

Vital Statistics:

	Last	Change
S&P futures	2911	-3.75
Eurostoxx index	385.16	-1.42
Oil (WTI)	69.93	0.42
10 year government bond yield		2.86%
30 year fixed rate mortgage		4.55%

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

Donald Trump is suggesting that a new NAFTA could be in place by the end of the week. One sticking point is removing a provision that inhibits the US from pursuing anti-dumping and anti-subsidy cases. Mexico has agreed, but Canada is still fighting it.

Initial Jobless Claims slipped 1K to 213,000 last week.

Personal incomes rose 0.3% and personal spending rose 0.4% in July, which was right in line with estimates. The PCE inflation index came in at 0.1% MOM / 2.3% YOY, and the core PCE index rose 0.2% MOM / 2.0% YOY. Inflation is pretty much right at the Fed’s target, which means they don’t have to move quickly to increase rates and can still just gradually lift off the lower bound.

A Reuters poll of real estate experts suggests that home prices will rise 6% this year and then begin to taper off the growth. Limited inventory has pushed up home prices well in excess of wage growth and inflation over the past 6 years. That sort of phenomenon can work when interest rates are falling, as the lower mortgage payment offsets the higher prices, but that game is over.

Congress is entertaining legislation that will make it easier for self-employed borrowers to get a mortgage. The bipartisan “Self-Employed Mortgage Access Act” will address the needs of borrowers who don’t have traditional W-2 income. Sponsor Mark Warner said: “An increasing number of Americans make their living through alternative work arrangements, like gig work or self-employment. Too many of these otherwise creditworthy individuals are being shut out of the mortgage market because they don’t have the same documentation of their income – paystubs or a W-2 – as someone who works 9-to-5. This bill will allow these workers to supply other forms of paperwork to verify their income while continuing to protect consumers from predatory lending.” The bill will expand the universe of income documentation to allow these borrowers to fall under QM. The bill is supported by the MBA and the Consumer Federation of America.

The Great Recession left what looks to be a permanent gap between potential GDP and actual GDP, which amounts to something like $70,000 per person. You can see the output gap in the chart below. Interestingly, the word “bubble” appears nowhere in the article – it is as if the financial crisis appeared out of nowhere, which certainly demonstrates a blind spot for the Fed (and central bankers in general).

They don’t take into account that the trajectory of growth (beginning in 1998 through 2006) was artificially boosted due to increasing asset prices. The trajectory begins with the stock market bubble and ends with the real estate bubble. Granted the late 90s growth was also influenced by a boom in productivity, but that ended soon after. I always find it interesting that central bankers believe “too much money chasing too few goods” (i.e. inflation) is a monetary phenomenon, but “too much money chasing too few assets” (i.e. asset bubbles) is not.

Morning Report: Personal incomes and spending rise

Vital Statistics:

	Last	Change
S&P futures	2811	7.75
Eurostoxx index	391.64	0.72
Oil (WTI)	69.72	-0.41
10 Year Government Bond Yield		2.95%
30 Year fixed rate mortgage		4.62%

Stocks are higher as earnings continue to come in. Bonds and MBS are up on news that the Bank of Japan will continue to hold down rates.

Personal spending and personal income rose 0.4% in June, according to BEA. Inflation remains under control with the PCE price index up 2.2% YOY and the core rate up 1.9%. The income and spending numbers were in line with expectations, and the inflation numbers were a touch below. Good news for the bond market as we start the FOMC meeting. Separately, another strong number out of the Chicago PMI.

The employment cost index rose 2.9% in the second quarter with wages and salaries increasing 2.9%. Benefit costs increased 2.9%.

Punch line: wages and salaries up 2.9%, inflation up 2.2% – we are seeing real wage growth despite all the stories in the press that wages are stagnant.

Home prices rose 6.4% in May according to the Case-Shiller home price index. San Francisco, Seattle and Las Vegas all reported double-digit gains. All MSAs are beginning to correlate a little tighter, with the spread between fastest and smallest falling to 10 percentage points, which is much smaller than the 25 ppts we saw during the bust years and the 20 ppt average since 2001. My guess is that this is a function of the improving job market in the Midwest and working through the last of the foreclosure inventory in the Northeast.

Mission creep out of the GSEs? Some Republican congressmen are calling foul as Fannie and Fred started a pilot program where they buy low downpayment loans and pair them with MI from Arch. Many in Congress would like to see Fannie and Freddie reduce their footprint in the mortgage market, not increase it. The FHFA has justified this move as necessary to perform their affordable housing mission. This will be a constant partisan battle, between Republicans who are alarmed by the fact that the US taxpayer bears the majority of the credit risk in the US mortgage markets and Democrats who are alarmed by the lack of affordable housing.

Young people are shunning construction jobs. The share of younger (under 24) workers in the construction industry has fallen 30% since the bubble days. The number of workers in the industry has fallen as well – from 11.7 million in 2006 to 10.2 million 10 years later. The typical construction job stays open for 39 days nationally, and many builders are hiring ex-cons to meet demand. The obvious answer would be for builders to raise pay to attract people, but what do you do if you are in the starter home business? Between higher wages and regulatory costs, your starter home might be unaffordable to people with the starter income. Note the industry has promised to train 50,000 workers over the next 5 years, but this is a drop in the bucket.

Morning Report: New Down Payment Assistance programs

Vital Statistics:

	Last	Change
S&P futures	2728.75	9.5
Eurostoxx index	379.91	3.04
Oil (WTI)	73.39	-0.06
10 Year Government Bond Yield		2.84%
30 Year fixed rate mortgage		4.52%

Stocks are higher this morning on end-of-quarter window dressing. Bonds and MBS are flat.

Personal incomes rose 0.4% in May while personal spending rose 0.2%. Incomes were in line with estimates, while spending was lower. The June FOMC statement said that consumer spending was accelerating – no evidence of that in this report. Services spending drove the decline, and we could be seeing evidence that higher gasoline prices is affecting discretionary expenditures. Inflation was in line with expectations at the MOM level, and a hair above expectations on an annual basis. The core PCE index ex-food and energy came in at 2%, which is right where the Fed wants it. April’s income and spending numbers were revised downward. Don’t be surprised if strategists take down some of their Q2 GDP forecasts on these numbers.

The Chicago PMI improved to 64 from 62, which is a 5 month high. New Orders and order backlog drove the increase. We are seeing some signs of inflation brewing, with extended lead times, and a 7 year high on the prices paid index. Businesses were asked about how trade was affecting their operations. About 25% said they were having a significant impact, 40% said there was a minimal impact, and the rest were either unsure or insulated from trade issues.

KB Home reported strong numbers, with a 170 basis point increase in gross margins, 10% revenue growth, and a 50% increase in operating income. ASPs were up 4% to 401,800, and order growth was 3%. Backlog was the second highest on record. The stock is up 7% pre-open.

Interesting theory about the lack of construction workers: opiods. Between users and those that have been convicted of crimes related to usage, many workers are shut out of the work force. 80% of homebuilders report shortages in subcontractors.

The Senate will hold hearings on July 12 and 19th for Kathy Kraninger’s nomination to run the CFPB. The conventional wisdom is that she is not intended to be confirmed, but is to be an excuse to keep Mick Mulvaney in charge of the agency.

Deutsche Bank failed its stress test, while State Street, Goldman and Morgan Stanley got dinged.

Many Millennials are struggling to get a down payment for a home, and now some companies are working to help them get it. One company will supply up to a $50,000 downpayment if the borrower rents out a room on Air B&B and shares the income with the company. These loans are appealing to borrowers who might qualify for a FHA or 3% down Fannie loan but don’t want to pay the MI and other costs. While there are fears that we are bringing back the bad old days of the real estate bubble, here is the MBA’s mortgage credit availability index. We are a long way away from the days of the pick-a-pay mortgage.

Morning Report: Spending / Incomes up, PCE inflation at target

Vital Statistics:

	Last	Change
S&P futures	2679	7.6
Eurostoxx index	385.1	0.46
Oil (WTI)	67.48	-0.62
10 Year Government Bond Yield		2.96%
30 Year fixed rate mortgage		4.56%

Stocks are higher after a slew of new mergers were announced. Bonds and MBS are up small.

We have a big week ahead with the FOMC meeting starting tomorrow and the jobs report on Friday. The Street isn’t looking for any changes in interest rates at the May meeting, but will focus as usual on the language of the statement. For the jobs report, the expectation is 190k new payrolls and 2.7% annual wage inflation.

Pending Home Sales were up marginally from February, but were still down on an annual basis, according to NAR’s Pending Home Sales Index. Bad weather in the Northeast pushed down pending sales, however all parts of the country were down. Again, blame low inventory and falling affordability.

Personal Incomes rose 0.3% in March, while personal spending rose 0.4%, in line with expectations. The PCE index was up 2% YOY and the core PCE index was up 1.9%. This is the Fed’s preferred measure of inflation and it is right where they are targeting. Income growth was the weakest since last Fall, however.

The big debate right now is whether there is any slack in the labor market. Anecdotal evidence abounds that companies are struggling to find qualified workers. However, Econ 101 says that we should be seeing higher wage inflation as a result and that isn’t happening (at least not yet). Some theories are claiming this is a market failure and that employers are artificially holding down wages (which is then used as an argument for more government intervention in the labor market). I suspect the issue is that there are three big forces holding back wage growth. First, inflation is low – if companies cannot pass along price increases to their customers, they aren’t going to be raising wages. Second, lower wage jobs are competing with technology which is only getting better and cheaper. And finally, the long-term unemployed represent a reservoir of slack that companies know they can tap if needed. FWIW, I think the first and third explanations explain it, and find the idea that employers are somehow colluding to keep wages low to be wholly unconvincing. Take a look at the chart below, which shows wage increases versus inflation. You are seeing actual wage growth.

For now it looks like the 3% level in the 10 year has held. What drove the sell-off – it wasn’t like there was anything data-wise to support it. JP Morgan blames CTAs using momentum strategies to short the 10-year. Chinese selling has also been rumored to be a factor. We won’t be able to confirm or deny that theory for a couple of months. CTA funds have been net short Treasuries since September, however a momentum signal in mid-April caused people to pile into the trade and that apparently drove the late month sell-off.

Steve Mnuchin is “cautiously optimistic” on trade talks with China. The subject will include intellectual property and joint ventures.

Defect risk decreased on a MOM basis but was up on a YOY basis, according to the First American Loan Defect Index. The biggest risk was in the sand states, while the lowest risk was in the Rust Belt.