Morning Report: The labor force participation rate shrinks again

Vital Statistics:

 LastChange
S&P futures4,021-63.25
Oil (WTI)80.77-0.43
10 year government bond yield 3.59%
30 year fixed rate mortgage 6.39%

Stocks are lower this morning after the jobs report came in better than expected. Bonds and MBS are down.

The economy added 263,000 jobs in November, which was better than the 200,000 street estimate. The unemployment rate stayed steady at 3.7%. Wage inflation continues to increase, with average hourly earnings rising 0.6%, faster than the upward-revised 0.5% in October. The labor force participation rate and the employment-population ratio both declined 0.1%.

To tie this into what Powell was saying Wednesday at Brookings, the biggest component of core inflation – services ex-housing – is driven by wage inflation. The other two – goods and housing services – are less of an issue going forward. Services ex-housing is the result of an extraordinarily tight labor market, and the Fed would like to see the supply / demand imbalance in the labor market get more in balance.

There are two ways to do that. The first way is for the Fed to cool the economy with rate hikes, causing a recession and lowering the demand for workers. The other way is for workers who left during COVID to return. The latter method is preferable since it will fix the imbalance naturally. Unfortunately, the Fed doesn’t have any way to influence that. The long-COVID sufferer who decides to re-enter the labor force isn’t going to care what the Fed Funds rate is.

The imbalance in the labor force is perplexing. The most likely outcome is that it stems from two areas – a decline in immigration and an increase in early retirements. The latter one might be a long-COVID effect. Assuming long COVID isn’t a permanent state of affairs, the labor force participation rate should be ticking up over time.

The Fed Funds futures ticked slightly more hawkish on the jobs report, but we are still looking at a consensus of 50 basis points. The only other major report would be the CPI coming in on the morning the Fed begins their meeting.

Stocks and bonds sold off on the employment number. The stock market reaction seems odd, but we may be in a “good news is bad news” environment for stocks which are fearing further rate hikes. The bond market’s reaction makes more sense. The yield curve is heavily inverted, back towards levels not seen since the early 1980s. The yield curve is typically positively slopes, which means it usually costs more to borrow for 10 years than it does for 2 years. There is a mean-reversion element too, which means you could think of the spread as a rubber band, and the further you get from normalcy, the greater the tension. In other words, with the two year being driven primarily by the Fed Funds projection and the 10 year being driven by market sentiment, further declines in long term rates will be more difficult to come by, and will be more fleeting.

The Atlanta Fed trimmed their GDP Now estimate to 2.8% from 4.3% in their latest model run. The ISM Manufacturing Survey, which has been in contraction mode for months, simply wasn’t comporting with a 4.3% expected GDP growth estimate.

Regardless, mortgage rates have been falling and are now back at levels last seen in mid-September.

Given my rubber band analogy they will want to be pulled higher, so the market is letting you back in.

Morning Report: Jerome Powell signals a slowdown in rate hikes

Vital Statistics:

 LastChange
S&P futures4,09713.25
Oil (WTI)82.612.83
10 year government bond yield 3.61%
30 year fixed rate mortgage 6.54%

Stocks are higher after welcome news on spending and inflation. Bonds and MBS are flat after yesterday’s furious rally.

Jerome Powell signaled that the Fed would be ready to begin slowing the pace of rate hikes as early as December. That was taken as blaring signal that the Fed was going to hike 50 basis points instead of 75 basis points. The December Fed Funds futures now handicap an 80% chance of a 50 bp hike and a 20% chance of a 75 bp hike.

While the market had been leaning towards a 50 basis point hike to begin with, this caused a massive rally in the 10 year, especially towards the close. Some of this might have been month-end rebalancing however the 10 year bond yield dropped about 12 basis points in 15 minutes and the S&P 500 ended up about 125 points on the day.

He characterized the housing market during the pandemic years as a bubble, which was strange to my ears. I would say the housing market in some MSAs got over heated, but the bubble mentality wasn’t there as far as lenders, regulators etc. are concerned. Still it signals the Fed sees weaker home prices going forward.

Personal incomes rose 0.7% in October, which was better than expectations. Spending continues to remain robust, rising 0.8% MOM. The PCE Price Index, which is the Fed’s preferred measure of inflation came in lower than expectations. The core rate decelerated substantially on a MOM basis while the headline number stayed steady.

Powell talked about the three components of core inflation in his speech yesterday – core goods, housing services, and core services ex-housing. Core goods has been a supply chain issue, and that has improved a lot. Housing services are essentially rent and house prices, and that has been a big driver over the past year, however there is evidence this is subsiding. Finally core services ex-housing has been fluctuating, but this will be driven by the labor market and wage increases. Powell said that the Fed’s inflation forecasts envision housing being a driver of inflation through mid year 2023.

The manufacturing economy contracted for the first time since May of 2020, according to the ISM Manufacturing Survey. New Orders and exports are in contraction territory, while inventory is about where it should be. Prices are falling, which is good news on the inflation front.

“Manufacturing contracted in November after expanding for 29 straight months. Panelists’ companies continue to judiciously manage hiring, other than October 2022, the month-over-month supplier delivery performance was the best since February 2012, when it registered 47 percent and material lead times declined approximately 9 percent from the prior month, approximately 18 percent over the last four months. Managing head counts and total supply chain inventories remain primary goals. Order backlogs, prices and now lead times are declining rapidly, which should bring buyers and sellers back to the table to refill order books based on 2023 business plans.”

Construction spending fell 0.3% MOM in October, according to the Census Bureau. Residential construction declined, while public construction increased.

Morning Report: Third quarter GDP revised upward

Vital Statistics:

 LastChange
S&P futures3,967 1.25
Oil (WTI)81.032.83
10 year government bond yield 3.77%
30 year fixed rate mortgage 6.58%

Stocks are marginally higher as we await Jerome Powell’s speech at the Brookings Institution. Bonds and MBS are down.

Fed Chairman Jerome Powell will speak at the Brookings Institution at 1:30 PM. I don’t see any prepared remarks on the Fed’s website. He will address the labor market, inflation and monetary policy. This will be the last week of Fed-speak ahead of the December FOMC meeting December 13-14.

The consensus seems to be that he will talk about slow and steady increases in rates and does not want to spook the markets one way or the other.

St. Louis Fed President James Bullard published an article that suggested the Fed Funds rate needs to rise to at least 4.9% in order to begin to impact inflation. “Results based on the latest trimmed mean PCE inflation rate, which is for September, suggested that it would take a policy rate of at least 4.9% to exert downward pressure on inflation. Thus, even under generous assumptions, the policy rate has not yet reached a level that could be considered sufficiently restrictive, according to these calculations.”

Third quarter GDP rose 2.9% in the third quarter, an upward revision from the initial 2.6% estimate. The PCE inflation indicator was revised up 0.1% to 4.3%. Exports, consumption and government spending were revised upward. Residential construction continues to remain a drag.

The economy added 127,000 jobs in November, according to estimates from ADP. The Street is looking for 200,000 jobs in Friday’s Employment Situation report. “Turning points can be hard to capture in the labor market, but our data suggest that Federal Reserve tightening is having an impact on job creation and pay gains,” said Nela Richardson, chief economist, ADP. “In addition, companies are no longer in hyper-replacement mode. Fewer people are quitting and the post-pandemic recovery is stabilizing.”

Leisure and hospitality added 224,000 jobs while manufacturing lose 100,000. The median pay change for job-stayers was 7.6%, while the median pay change for job-changers was 15.1%.

Job openings edged down by 350k to 10.3 million, according to the JOLTS jobs report. The quits rate declined to 2.6% from 2.7%. This means that more people are staying with their employers, which will act to reduce wage inflation.

Pending home sales fell 4.6% in October, according to the National Association of Realtors. “October was a difficult month for home buyers as they faced 20-year-high mortgage rates,” said NAR Chief Economist Lawrence Yun. “The West region, in particular, suffered from the combination of high interest rates and expensive home prices. Only the Midwest squeaked out a gain. The upcoming months should see a return of buyers, as mortgage rates appear to have already peaked and have been coming down since mid-November.”

Mortgage Applications fell 0.8% last week as purchases increased 4% and refis fell 13%. “Mortgage rates declined again last week, following bond yields lower,” said Joel Kan, MBA Vice President and Deputy Chief Economist. “The economy here and abroad is weakening, which should lead to slower inflation and allow the Fed to slow the pace of rate hikes. Purchase activity increased slightly after adjusting for the Thanksgiving holiday, but the decline in rates was still not enough to bring back refinance activity.” The MBA refinance index is at 22 year lows.

Morning Report: The new conforming loan limits for 2023 are out

Vital Statistics:

 LastChange
S&P futures3,970-0.25
Oil (WTI)78.46 1.23
10 year government bond yield 3.76%
30 year fixed rate mortgage 6.52%

Stocks are flattish after Chinese stocks rally overnight. Bonds and MBS are down.

Home prices rose 0.1% QOQ and 12.4% YOY, according to the FHFA House Price Index.

This means that the new conforming loan limit for 2023 will be $726,200. It looks like FHFA released the new limits a day early. “House prices were flat for the third quarter but continued to remain above levels from a year ago.” said William Doerner, Ph.D., Supervisory Economist in FHFA’s Division of Research and Statistics. “The rate of U.S. house price growth has substantially decelerated. This deceleration is widespread with about one-third of all states and metropolitan statistical areas registering annual growth below 10 percent.”

The growth in the West is slowing, while the Southeast (especially Florida) is accelerating.

Separately, the Case Shiller Home price Index showed prices declined overall about 1.5% in September.

Redfin noted that home price growth is cooling the fastest in the Pandemic Boomtowns of Austin, Phoenix and Boise. “The forces slowing the housing market, such as high mortgage rates, are having an outsized impact on places like Austin and Boise that saw home prices skyrocket over the last few years,” said Redfin Senior Economist Sheharyar Bokhari. “Home prices can only rise by double digits for so long before the growth becomes unsustainable. High rates and stumbling tech stocks are making it unsustainable quite quickly, especially in destinations popular with tech workers. Plus, many of the out-of-towners with big budgets who wanted to move into those places already have.”

Morning Report: Big week of data coming up

Vital Statistics:

 LastChange
S&P futures3,998-33.75
Oil (WTI)74.41-1.83
10 year government bond yield 3.69%
30 year fixed rate mortgage 6.56%

Stocks are lower this morning on Chinese protests over COVID lockdowns. Bonds and MBS are up.

We have a big week of data coming up with house prices on Tuesday, GDP on Wednesday, Personal Incomes and Outlays on Thursday and the jobs report on Friday.

The FHFA House Price Index will be released on Tuesday. This will be the final number to establish the conforming loan limits for 2023. As of now, the consensus seems to be that the new limit will be 715k or so.

The PCE Price Index (the Fed’s preferred inflation index) will be released on Wednesday. We will also get one more CPI print before the Fed announces its decision for December.

Single family rents rose 10.2% YOY, according to CoreLogic. “Annual single-family rent growth decelerated for the fifth consecutive month in September but remained at more than twice the pre-pandemic growth rate,” said Molly Boesel, principal economist at CoreLogic. “High mortgage interest rates may be causing potential homebuyers to hit pause and remain renters, keeping pressure on rent prices.  However, the monthly rent change was negative in September, resuming the typical seasonal pattern for the first time since 2019, which could signal the beginning of rent price growth normalization.”

Interestingly, the lag between home price appreciation and rents is about 21 months, which means that we are looking at home price appreciation from early 2021. In theory, we should see an acceleration of rental inflation as the home price growth of 2021 and 2022 is still not reflected in the numbers yet.

The big banks are largely forecasting a recession for next year and a Fed Funds rate of 5%+

Most strategists think the S&P 500 will end 2023 lower than where it is today.

Morning Report: FOMC Minutes signal a slowdown in rate hikes

Vital Statistics:

 LastChange
S&P futures4,031-1.75
Oil (WTI)78.75-0.83
10 year government bond yield 3.74%
30 year fixed rate mortgage 6.56%

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

The stock and bond markets close early today, and there is no economic data. It should be a quiet day in the markets overall.

The FOMC minutes didn’t have much in the way of impact on the markets. They basically said that inflation is still too high and that a sustained period of below-trend GDP growth would be helpful in re-setting inflationary expectations. On the labor market, the participants noted that labor shortages remain acute, and many companies are choosing not to lay off people.

The decision to hike 75 basis points was unanimous, and a “substantial majority” felt it would soon be appropriate to slow the pace of hikes. So that sounds like 50 basis points at the December meeting.

They did mention the issues in the UK Gilt market (it crashed) and discussed ways they could prevent the same thing from happening here.

The market reaction to the minutes was positive, however we have mostly given up those gains this morning.

The Biden Administration is trying to mediate a solution for a potential railway strike that would hit at the end of the year. The Administration helped negotiate a deal in September, however the union members voted against it. A railway strike would halt about 30% of cargo shipments, which would make the Fed’s job in fighting inflation harder. (Note the FOMC minutes didn’t discuss the railway issues).

Labor definitely has the upper hand in union negotiations these days, something we haven’t seen in 40 years.

Morning Report: New Home Sales rise

Vital Statistics:

 LastChange
S&P futures4,006-3.75
Oil (WTI)78.12-2.83
10 year government bond yield 3.74%
30 year fixed rate mortgage 6.59%

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

The big event today will the the FOMC minutes at 2:00 pm today. Investors will be looking for clues that the Fed is ready to pivot to a less hawkish monetary policy. The consensus seems to be that we will get a 50 basis point hike in December and then another 50 sometime in 2023.

The yield curve continues to invert, with the 2s 10s spread now at 80 basis points. This sort of inversion was last seen in the early 1980s which was during a pretty major recession.

With the Fed Funds target rate at 3.75% – 4.00%, the 10 year is below the overnight rate, and the 30 year is almost there.

The decline in long-term rates is helping the mortgage market, which had its second straight increase in weekly applications. The composite index rose 2.2% as purchases increased 3% and refis increased 2%. “The 30-year fixed-rate mortgage fell for the second week in a row to 6.67 percent and is now down almost 50 basis points from the recent peak of 7.16 percent one month ago,” said Joel Kan, MBA Vice President and Deputy Chief Economist. “The decrease in mortgage rates should improve the purchasing power of prospective homebuyers, who have been largely sidelined as mortgage rates have more than doubled in the past year. As a result of the drop in mortgage rates, both purchase and refinance applications picked up slightly last week. However, refinance activity is still more than 80 percent below last year’s pace.”

Consumer sentiment declined in November, according to the University of Michigan Consumer Sentiment Index. Sentiment was weighed down by rising interest rates, a weakening labor market, and continued inflation. That said, inflationary expectations for the next year ticked down to 4.9% from 5.0%, although longer-term expectations remained in the 2.9% – 3.1% range. The last time expectations were this high 2008 and the early 1980s.

New Home sales rose 7.5% MOM in October to a seasonally adjusted annual rate of 632,000. This is still down about 5.8% on a YOY basis. The median price was up 24% YOY to 493,000.

Morning Report: Investor Property Demand Declines

Vital Statistics:

 LastChange
S&P futures3,977 19.25
Oil (WTI)81.3 1.26
10 year government bond yield 3.80%
30 year fixed rate mortgage 6.61%

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

Investor activity activity in the real estate market is declining, according to new research from Redfin. Investor purchases of homes fell 26% in the third quarter, as higher interest rates discouraged activity. That said, this is a decline from record levels, so investor demand still remains healthy.

This is probably good news for the first time homebuyer, who will face less competition from cash-rich investors. The biggest declines were in the hottest markets of the past couple of years, such as Phoenix, Portland or Las Vegas. In Phoenix, investor purchase activity was cut in half. Interestingly, we saw investors increase share in the Northeast including Philly and New York City.

18 months ago, investors were looking at mid-single digit cap rates with high teens price appreciation. Compared to every other asset out there, SFR rentals were a lay-up. Now that home price appreciation is returning to historical levels we should see investors exit the space and go into fixed income assets which are much more attractive today than they were 18 months ago.

I haven’t had much to say about the FTX scandal, but one question that comes up is whether this could lead to another 2008. IMO, the chance of that happening is pretty much close to zero. 2008 was the aftermath of a burst residential real estate bubble, which are the Hurricane Katrinas of banking and economics.

Crypto is a much smaller market – most people don’t own it, and those that do have it as a part of their overall investment portfolio. It isn’t like a primary residence, which makes up the bulk of someone’s net worth. FTX will be more like an Enron than a burst real estate bubble – a cautionary tale.

The government will undoubtedly seize on FTX to introduce their own digital dollar and to drive out competitors. The problem for the government is people like crypto precisely because it is not controlled by the government. It can’t be inflated away via monetary or fiscal policy. And people nervous about potential “social credit” schemes taking place in the US will also find the asset attractive.

FTX was an ESG darling, which shows the pitfalls of investing with people who speak the right lingo but can’t run a business.

Morning Report: Mortgage banks report losses in the third quarter

Vital Statistics:

 LastChange
S&P futures3,963-10.25
Oil (WTI)77.35-3.02
10 year government bond yield 3.77%
30 year fixed rate mortgage 6.61%

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

We should have a quiet week with the Thanksgiving holiday and limited economic data. In terms of data, Wednesday will be the big day with durable goods, new home sales and consumer sentiment. We also get the FOMC minutes on Wednesday as well. Markets will be closed on Thursday and the bond market will close early on Friday.

Most mortgage banks reported a net loss during the third quarter, according to data from the Mortgage Bankers Association. The average loss was about $624 and was due to both declining revenues and rising costs. “The average pre-tax net production income per loan reached its lowest level since the inception of MBA’s report in 2008, which is sobering news given that the third quarter is historically the strongest quarter of the year,” said Marina Walsh, CMB, MBA Vice President of Industry Analysis. “The industry continues to struggle with a perfect storm of lower production volume and revenues and escalating production costs, which for the first time exceed $11,000 per loan.”

Servicing net income fell to $102. Servicing valuations have probably peaked, and there are more sellers than buyers as mortgage bankers try to sell servicing portfolios to increase liquidity. One of the facts of life about illiquid markets (and servicing is one of those) is that everyone is usually on the same side of the boat. The prepay effect is already played out and delinquencies are only going to rise as we head into a recession.

The Chicago Fed National Activity Index slipped in October as three of the four big categories – production, employment and sales – negatively contributed to the index. Only consumption was positive. The CFNAI is sort of a meta-index of a bunch of disparate economic reports, and it is saying that the economy is growing slightly below trend.

Interestingly, the Atlanta Fed GDP Now index (which is probably just a model based on a meta index similar to CFNAI) sees the economy growing at over 4% in the fourth quarter which would be well above trend.

The Wall Street Journal has a good piece that puts the current tightening cycle into perspective. The steady diet of 75 basis point increases is the most dramatic since the early 1980s and the full impact of those hikes have yet to be felt.

The increase in mortgage rates is also the biggest since the early 80s. For the housing sector, rates started inching up before the Fed actually started tightening.

Morning Report: Existing Home Sales fall

Vital Statistics:

 LastChange
S&P futures3,993 36.25
Oil (WTI)78.68-3.02
10 year government bond yield 3.77%
30 year fixed rate mortgage 6.59%

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

Existing home sales fell for the ninth month in a row, according to the National Association of Realtors. Sales fell 5.9% MOM to a seasonally-adjusted annual rate of 4.43 million. This is down 28.4% from a year ago. Blame high prices and high mortgage rates, which are negatively affecting affordability.

“More potential homebuyers were squeezed out from qualifying for a mortgage in October as mortgage rates climbed higher,” said NAR Chief Economist Lawrence Yun. “The impact is greater in expensive areas of the country and in markets that witnessed significant home price gains in recent years.”

Yun is talking about California and some of the Western MSAs like Boise Idaho, which experienced rapid price appreciation since the pandemic began. Essentially, people in California sold homes and used the cash to purchase properties in places like Phoenix or Boise. These cash buyers drove up prices higher than could be supported by the local economy.

Now, these cash-rich buyers are disappearing as they cannot sell their homes at the prices they want in California, which means that prices in Boise are falling to what the local economy can support. If Tanner the Tech Bro wants to sell his Casper, Wyoming property, he is going to have to cut the price.

“Inventory levels are still tight, which is why some homes for sale are still receiving multiple offers,” Yun added. “In October, 24% of homes received over the asking price. Conversely, homes sitting on the market for more than 120 days saw prices reduced by an average of 15.8%.

The median price rose 6.6% YOY to $379,000, which is a 128 month winning streak, the longest on record. This is shutting out first time homebuyers, who only accounted for 26% of sales. This is a record low, and speaks to the affordability issue. Historically that number has been around 40%.

More recessionary indicators: The Conference Board’s Index of Leading Economic Indicators fell 0.8% in October, following a 0.5% decrease in September.

“The US LEI fell for an eighth consecutive month, suggesting the economy is possibly in a recession,” said Ataman Ozyildirim, Senior Director, Economics, at The Conference Board. “The downturn in the LEI reflects consumers’ worsening outlook amid high inflation and rising interest rates, as well as declining prospects for housing construction and manufacturing. The Conference Board forecasts real GDP growth will be 1.8 percent year-over-year in 2022, and a recession is likely to start around yearend and last through mid-2023.”

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