Morning Report: Strong retail sales

Vital Statistics:

 

Last Change
S&P futures 2857 14.5
Oil (WTI) 54.92 -0.64
10 year government bond yield 1.59%
30 year fixed rate mortgage 3.84%

 

Stocks are up after strong retail sales numbers. Bonds and MBS are flat. The German Bund hit a new low this morning, trading at negative 66 basis points.

 

Strong retail sales numbers out this morning. The headline number was up 0.7%, well above the Street expectations of 0.4%. The control group, which strips out volatile gas and autos, was up 1.0% MOM, exceeding the Street estimate by 0.7%. Note that Trump’s delay of Chinese tariffs means they won’t hit until mid-December, or after the holiday shopping season. These numbers bode well for the back-to-school shopping season, which is the second most important of the year. Note that Walmart also reported strong numbers this morning, another bellwether for the retail sector. Expect strategists to take up their GDP estimates on these figures.

 

In other economic news, initial jobless claims rose to 220,000 last week, while industrial production fell 0.2% MOM and rose half a percent YOY. Capacity Utilization fell to 77.5%. The industrial and manufacturing numbers are probably influenced by trade.

 

Productivity rose 2.3% in the second quarter, way more than expectations as output rose 1.9%, hours worked fell 0.4% and compensation rose 4.8%. The biggest surprise however came in the revisions, where compensation in the first quarter was revised upward from -1.5% to +5.5%! These are inflation-adjusted numbers, so we had real compensation growth of 5.2% in the first half of the year. Where was the growth strongest? Manufacturing.

 

With the inversion of the yield curve, the business press is chattering about an imminent recession. Don’t buy it. Most of them are talking their partisan book and are sticking with their preferred narrative: (Trump’s trade war is causing a recession!). It helps that it is the most convenient and easy to explain scenario, and let’s face it: it is hard to talk about overseas interest rates when most journalists wouldn’t know a Bund if it bit them in the begonias. Reality check: you generally don’t get recessions with a dovish Fed, unemployment at 50 year lows, strong consumer spending and accelerating wage growth. In fact, the bullish case is that with strong wage growth, overseas deflation keeping inflation in check, and a dovish Fed, you could see what a scenario similar to the mid / late 90s. Food for thought.

 

The new FHA guidance for condos is available in its unpublished form here. The new rule will become effective 60 days after publication in the Federal Register (which should be any day now) and will make more condos eligible for FHA insurance.

 

Home prices rose 3% in July, according to Redfin. “July home prices and sales were weaker than I had expected, especially given that falling mortgage rates have been luring homebuyers back to the market since early spring,” said Redfin chief economist Daryl Fairweather. “Even though we’ve seen increased interest from homebuyers—especially compared to a year ago when mortgage rates were climbing—uncertainties in the overall economy and talk of a looming recession have people feeling jittery about making a huge purchase and investment. But I think the odds are that we won’t see a recession within the next year. If rates stay low and the economy continues to grow, we’ll see more homebuyers come back in a serious way in 2020, and the market will be much more competitive.” Home sales were down 3.4%, while supply fell by the same amount. In terms of price, the previously hot markets of San Jose and Seattle fell, while many of the laggards (like Cleveland and Rochester) rose.

 

Redfin price chart

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Morning Report: The Fed maintains rates

Vital Statistics:

 

Last Change
S&P futures 2928 4
Eurostoxx index 390.26 -0.72
Oil (WTI) 62.94 -0.66
10 year government bond yield 2.53%
30 year fixed rate mortgage 4.23%

 

Stocks are up this morning after the Fed maintained rates. Bonds and MBS are down.

 

As expected, the Fed maintained the Fed Funds rate at current levels, although they did tweak the rate on overnight reserves. During the press conference, Jerome Powell pushed back against the idea that the Fed’s next move will be a cut. Rates initially fell down the 2.46% level, but overnight retraced that move and we are back at levels we saw before the meeting. The Fed was surprised by the strength in both the job market and the overall economy and the fact that inflation remains lower than they would like to see.

 

At the press conference, a number of journalists asked about the market’s forecast for another rate cut. Powell stressed that the Committee’s view is that the current level of interest rates is “appropriate” and that core inflation was running close to the Fed’s target of 2% for most of 2018. The Fed Funds futures trimmed their estimates for a 2019 rate cut, from a 2/3 chance to more 50/50.  MBS spreads are slightly wider (meaning mortgage rates are a touch higher relative to the 10 year than they were yesterday).

 

Fed fund futures dec 2019

 

Construction spending fell 0.9% MOM and 0.8% YOY in March, according to the Census Bureau. Residential construction drove the decrease, falling 1.8% MOM and 8.4% YOY. Ex-residential construction, spending was solid, but we could see a downward revision in Q1 GDP estimates due to the resi numbers.

 

Productivity rose 3.6% in the first quarter as unit labor costs fell 0.9%. Q4’s productivity number was revised upward to 1.3%. Not sure what drove the decrease in unit labor costs – wages have been rising – but the problems with measuring productivity in this economy have been noted before. Regardless, the drop in labor costs and higher output mean inflation should remain below the Fed’s 2% target.

 

Initial jobless claims rose to 230k last week.

 

Lumber prices have been falling after spiking at record levels last year. Given that this is the time of year we should see more demand, this is surprising. The driver has been weather and continued weakness in homebuilding. Lower commodity prices should increase the margins for homebuilders and hopefully incent more homebuilding. Note that the S&P homebuilder ETF is up 25% this year.

 

What would happen to mortgage rates if we release Fannie and Freddie from conservatorship? Currently, Fannie and Freddie debt is treated as sovereign debt by investors, in other words, they believe the government will stand behind the debt if the GSEs run into trouble. This lowers their cost of funds, which gets passed on to borrowers in lower mortgage rates. If Fannie and Freddie are released from conservatorship, and the government no longer backs their debt, it will increase mortgage rates overall (their debt will definitely NOT be AAA), and will probably impact their ability to do perform the affordable housing part of their mandate. It is important to remember the reason why Fannie and Freddie were privatized in the first place – it was done in the 1970s to paper over the debt being issued to fund the Vietnam war. In a way, the government was using off-balance sheet financing, similar to the special purpose vehicles banks were using in the mid 00s. If there is more than 20% outside ownership in the subsidiary, then the parent is no longer required to consolidate the subsidiary’s debt on its balance sheet. In other words, they don’t have to claim that debt on their books, even if they are guaranteeing it. This accounting sleight of hand lowered the US debt numbers in the 1970s and it was hoped that this would help fight rising inflation (obviously that did not work). It may turn out that there would not be a bid for new Fannie Mae and Freddie Mac stock without a government credit wrapper, which means that hopes for a fully privatized Fannie and Freddie might turn out to be impossible to achieve.

Morning Report: Jobs data and the Fed funds futures

Vital Statistics:

 

Last Change
S&P futures 2675 -16
Eurostoxx index 374 3.73
Oil (WTI) 51.4 -0.09
10 year government bond yield 2.89%
30 year fixed rate mortgage 4.66%

 

Stocks are lower this morning after yesterday’s wild ride in the stock and bond markets. Bonds and MBS are flat.

 

Jobs report data dump:

  • Nonfarm payrolls + 155,000
  • Unemployment rate 3.7%
  • Labor force participation rate 62.9%
  • Average hourly earnings up 0.2% / 3.1%

This was generally a weaker-than-expected jobs report, with payrolls coming in below the 190,000k estimate and average hourly earnings about 1/10% below estimates. It probably won’t make that much of a difference to the Fed, but it does show the economy is moderating a bit from the torrid pace of mid-year.

 

The Fed Funds futures are beginning to cheat to the side of less movement from the Fed. While the December futures are still predicting a hike, the June futures are now predicting that the Fed might hike only one more time.

 

fed funds futures

 

Nonfarm productivity rose 2.3% last quarter, while employment costs rose 0.9%. Real compensation grew at 1.1%, which is disappointing, but overall the report is decent. This report does demonstrate the issue that has been bedeviling the Fed: if we are at full employment, wages should be heading higher and the central bank should get ahead of that. However, wages are behaving as if we are not at full employment. So which numbers are telling the truth? IMO, we are not at full employment yet. While there are worker shortages in some areas, there is a glut in other areas. Also the financial crisis kicked out a lot of workers who were in their prime earnings years, and that is depressing the numbers.

 

Kathy Kraninger has been confirmed by the Senate to be the next head of the CFPB. She will serve a 5 year term. The vote fell along party lines, with Republicans looking for her to reform the agency’s anti-business tilt, while Democrats ululated that she won’t be tough enough on the industry. While nobody knows exactly what she has in mind, the CFPB has been going in the direction of more transparency about what the rules of the road are.

 

Loan Depot CEO Anthony Hsieh sent an email to his loan officers to stop whining. “I am honored to be your CEO and happy to work very hard for you. But the 42% that are unhappy being here, I do not want to work this hard for those that don’t want to be here. Adjust your attitude, be ALL-IN,” the alleged email states.  “Stop acting entitled and understand this industry has ups and downs, but all will average out great. Be confident and stop whining” Definitely a different approach to motivating people.

Morning Report: Mortgage delinquenices fall

Vital Statistics:

Last Change
S&P futures 2824 -16.5
Eurostoxx index 380.78 -4.14
Oil (WTI) 66.49 -0.55
10 Year Government Bond Yield 2.86%
30 Year fixed rate mortgage 4.58%

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

Kind of a mixed bag with economic data this morning.

Retail Sales came in well above expectations in July, with the headline number rising 0.5%. The control group, which excludes autos, gas, and building materials was up the same amount. While July’s numbers were strong, June’s estimate was revised downward, so expect to see a downward revision on Q2 GDP from the first estimate of 4.1%.

Mortgage Applications fell 2% last week as purchases fell 3% and refis were flat. The typical mortgage rate fell 3 basis points, which helped push refis up to 37.6% of all mortgages.

Productivity increased 2.9% as output increased 4.8% and hours worked increased 1.9%. Compensation costs increased 2%, so with the productivity gain, unit labor costs fell 0.9%. This will certainly make the Fed happy, as higher productivity leads to higher non-inflationary wage growth and higher standards of living. This is the preliminary estimate for the second quarter and will be subject to revision.

Industrial production only managed a 0.1% gain in July, and manufacturing production was up 0.3%. June numbers were revised sharply higher, so that offset the weakness. Capacity Utilization was flat at 78.1%.

Homebuilder confidence slipped last month to the lowest in a year as labor shortages and higher material prices dampen sentiment. “The good news is that builders continue to report strong demand for new housing, fueled by steady job and income growth along with rising household formations,” said NAHB Chairman Randy Noel, a homebuilder from LaPlace, La. “However, they are increasingly focused on growing affordability concerns, stemming from rising construction costs, shortages of skilled labor and a dearth of buildable lots.”

Despite the strong economic news, we are starting to see a bit of a risk-off trade in the structured credit market. Bank of America has gone negative on structured products and agency MBS. This means that mortgage spreads are widening which will either lead to higher mortgage rates or lower profit margins (probably a bit of both). That said, B of A is calling for a flattening of the yield curve, which will offset the wider spreads at least somewhat.

The strong economy is lowering delinquencies, according to CoreLogic. The 30 day + DQ rate fell from 4.5% to 4.2% in May. Seriously delinquent rates are lower overall, except for the hurricane hit states of Florida and Texas. The California wildfires have the potential to goose up DQ rates in the coming months.

Corelogic DQ