Morning Report: FOMC Minutes signal a slowdown in rate hikes

Vital Statistics:

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:

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:

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:

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:

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.”

Morning Report: James Bullard spooks the markets

Vital Statistics:

S&P futures3,918-49.25
Oil (WTI)83.97-1.62
10 year government bond yield 3.77%
30 year fixed rate mortgage 6.59%

Stocks are lower this morning after hawkish comments from St. Louis Fed President James Bullard. Bonds and MBS are down.

St. Louis Fed President James Bullard gave a speech which suggested that a “sufficiently restrictive” Fed Funds rate would need to be somewhere between 5% and 7%. The chart that freaked out the markets is below:

Bullard is basing this recommended policy rate on the Taylor Rule, which is a formula that calculates the ideal Fed Funds rate based on inputs such as the real interest rate, inflation, and the output gap. The punch line is that based on the current situation the Fed Funds rate should be at least 5%.

The stock and bond rally of the past week has been driven by hopes the Fed is set to pivot to looser monetary policy, and it is reversing on this speech. Note we will get Neel Kashkari (noted hawk) speaking this morning as well.

Housing starts came fell 4.2% MOM and 8.8% YOY to a seasonally-adjusted annual rate of 1.42 million. Building Permits fell to 1.53 million. Separately, the MBA reported that mortgage applications for new homes decreased 28.6% from a year ago. This number is not seasonally adjusted, so that factor is playing a part here, however mortgage rates above 7% is the primary driver.

Interestingly, the average loan size fell to $400,616 which is a function of slower home price growth and declining interest in higher-priced homes. It doesn’t look like average selling prices for the builders are declining yet, and the barometer of luxury homes – Toll Brothers – has an October FY, so we won’t hear from them until early December.

The increase in mortgage rates means some potential homebuyers can no longer afford to buy a house they ordered a year ago. This is causing people to lose any sort of deposit they put down. This is happening even if the builder ends up selling the property to a different borrower at a higher price.

Just under 2 million mortgages were originated in the 3rd quarter of 2o22, according to data from ATTOM. This is down 19% from the second quarter and 47% from a year ago. The 47% decline was the largest in 21 years. “There are no surprises in this quarter’s loan origination numbers, as the unprecedented jump in mortgage rates has battered both the purchase and refinance markets,” said Rick Sharga, executive vice president of market intelligence at ATTOM. “Prospective homebuyers have been priced out of the market by the combination of 7 percent mortgage rates and higher home prices. And refinance activity will probably continue to decline, since the majority of homeowners have loans with sub-4 percent interest rates.”

Morning Report: The typical homebuyer needs to make $107k to afford the median home

Vital Statistics:

S&P futures3,982-16.25
Oil (WTI)85.21-1.72
10 year government bond yield 3.72%
30 year fixed rate mortgage 6.62%

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

Retail Sales surprised to the upside in October, rising 1.3% month-over-month and 8.35 year-over-year. The Street was looking for a 1% increase. Ex-vehicles and gas, sales rose 0.9%. These numbers are nominal (not inflation-adjusted), so the year-over-year increases are more or less flat.

Mortgage applications rose for the first time in 2 months last week as rates fell. Overall applications increased by 2.7% as purchases rose 4% and refis fell 2%. The refi index is 88% lower than it was a year ago. The purchase index is 46% lower than a year ago. “Mortgage rates decreased last week as signs of slower inflation pushed Treasury yields lower,” said Joel Kan, MBA Vice President and Deputy Chief Economist. “The 30-year fixed rate saw the largest single-week decline since July, dropping to 6.9 percent. Application activity, adjusted to account for the Veterans Day holiday, increased in response to the drop in rates – driven by a 4 percent rise in home purchase applications. Purchase applications increased for all loan types, and the average purchase loan dipped to its smallest amount since January 2021. Refinance activity remained depressed, down 88 percent over the year. There is very little refinance incentive with rates so much higher than last year.”

Housing affordability has declined over the past year, and the typical homebuyer needs to make six figures to afford the typical home, according to a study from Redfin.

The median household income in the US is $70,784 which means most households are shut out of the purchase market. Some of the hottest markets like San Francisco now require a salary over $400k.

People selling out of expensive California MSAs have pushed up prices in places like Boise or other Western MSAs. As homes in California become harder to sell (just less potential buyers) there are less out-of-MSA buyers in these places, and home prices are re-adjusting to what the locals can afford.

Homebuilder sentiment fell again, according to the NAHB Housing Market Index. “Higher interest rates have significantly weakened demand for new homes as buyer traffic is becoming increasingly scarce,” said NAHB Chairman Jerry Konter, a home builder and developer from Savannah, Ga. “With the housing sector in a recession, the Biden administration and new Congress must turn their focus to policies that lower the cost of building and allow the nation’s home builders to expand housing production.”

The current reading of 33 is the lowest since mid-2012, when the post-bubble housing market was bottoming.

Morning Report: Inflation at the wholesale level comes in lower than expected

Vital Statistics:

S&P futures4,00741.25
Oil (WTI)84.98-0.88
10 year government bond yield 3.78%
30 year fixed rate mortgage 6.70%

Stocks are higher this morning on optimism about talks between the US and China. Bonds and MBS are up.

More good news on inflation: The producer price index rose 0.2% in October, which was well below Street expectations and flat compared to September. On a year-over-year basis, prices are up 8%, which was lower than expectations. If you strip out food and energy, the index rose 0.2% month-over-month and 5.4% YOY.

The PPI is a wholesale price index, which is a step removed from what consumers see. Regardless, this is good news for the economy overall and indicates the Fed is gaining traction on the inflation front.

Housing will continue to be a contributor to headline inflation, at least for a while. “As the housing market cools, this category will also ease but we may have to wait until next year before it meaningfully dampens headline inflation,” said Jeffrey Roach, chief economist for LPL Financial.

Interesting tidbit on housing – Warren Buffett’s Berkshire Hathaway initiated a position in building products manufacturer Louisiana Pacific. Historically housing has led the economy out of a recession, although it has been sluggish after the Great Recession.

Separately, the Home Despot reported better-than-expected sales, although the number of transactions declined.

Lael Brainard said yesterday that it would soon be appropriate to slow the pace of rate hikes. “I think it will probably be appropriate soon to move to a slower pace of increases, but I think what’s really important to emphasize is… we have additional work to do,” Brainard said in an interview with Bloomberg in Washington. It’s really going to be an exercise on watching the data carefully and trying to assess how much restraint there is and how much additional restraint is going to be necessary, and sustained for how long, and those are the kinds of judgments that lie ahead for us,” she said.

This statement comports with the December Fed Funds futures, which are showing a 85% chance of a 50 basis point hike next month. After that, it looks like we might get another 25 basis points in early 2023 and then the Fed will stand pat for a while.

Morning Report: The Chinese government takes steps to support the economy

Vital Statistics:

S&P futures3,990-10.25
Oil (WTI)87.90-1.03
10 year government bond yield 3.87%
30 year fixed rate mortgage 6.73%

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

The upcoming week won’t have much in the way of market-moving data, although the Producer Price Index on Tuesday could have an impact if it comes in wildly out of expectations. We will get a lot of housing data with the NAHB Homebuilder Sentiment Index, Housing starts and existing home sales. We will also have a lot of Fed-speak, and uber-hawk Neel Kashkari will be speaking on Thursday.

Mortgage delinquency rates fell to a seasonally-adjusted rate of 3.45%, according to the MBA. This is the lowest level since the survey’s inception which goes back to the 1970s. Much of the decline was in the 90-day bucket, where they fell 22 basis points to 1.27%.

“For the second quarter in a row, the mortgage delinquency rate fell to its lowest level since MBA’s survey began in 1979,” said Marina Walsh, CMB, MBA Vice President of Industry Analysis. “Foreclosure starts and loans in the process of foreclosure also dropped in the third quarter to levels further below their historical averages. The relatively small number of seriously delinquent homeowners are working with their mortgage servicers to find foreclosure alternatives, including loan workouts that allow for home retention.”

The Chinese government instituted a 16 point plan to shore up the real estate market. The government is hoping for a soft landing, however a country that has entire cities built on spec probably won’t have one. The situation in China affects the US a couple of ways. First, I would bet that some of the weakness in West Coast markets like San Francisco and Seattle is due to Chinese liquidating assets. Remember, in a crisis, you sell what you can, not necessarily what you want. Real estate accounts for about a third of the Chinese economy, which is bubble territory. In the US, real estate accounts for about 16%.

The Chinese crisis will also impact global demand as the main effect of a burst real estate bubble is a collapse in domestic demand. This will reduce demand for all sorts of commodities which will help quell global inflation. This should also cause a flight to quality in China which means they will be buying Treasuries. This means lower interest rates in the US.

Angel Oak Home Loans is exiting the retail lending business and selling its brick and mortar operations to Cross Country Mortgage. It will focus on non-QM going forward. “Angel Oak intends to focus on the Non-QM residential mortgage sector through its wholesale and correspondent channels,” the company’s statement continued. “The transaction has zero impact on the wholesale Non-QM originator Angel Oak Mortgage Solutions, Angel Oak Correspondent Lending, or any other Angel Oak affiliates.”

Morning Report: Consumer sentiment dives in November

Vital Statistics:

S&P futures3,98120.00
Oil (WTI)89.493.03
10 year government bond yield 3.81%
30 year fixed rate mortgage 6.73%

Stocks are higher on follow-through after yesterday’s inflation print. Bonds and MBS are closed for the Veteran’s Day holiday.

Yesterday’s lower-than-expected consumer price index ignited a powerful rally in stocks and bonds yesterday. Now that we have had a day to settle in, let’s take a look at the Fed Funds futures.

The December 2022 FF futures now see a 85% chance of a 50 basis point hike and a 15% chance of a 75 basis point hike. If we hike 50 basis points, then the Fed Funds target rate will be between 4.25% and 4.5%. The December 2023 Fed Funds futures have a wide range of possibilities, however the central tendency is for the final Fed Funds rate to be between 4.25% and 4.5%. The second most common bet is between 4.5% and 4.75%.

Assuming these forecasts are correct, it would mean that the Fed should signal that its dramatic series of rate hikes is finished, and it will wait to see how the data shakes out. We will get one more PCE report and one more CPI report before the December meeting.

Mortgage related stocks were elated on the news yesterday. Mortgage REITs like Annaly Capital jumped 10%. AGNC Investment rose by a similar amount. Originators like Rocket rose 11%. Don’t forget that MBS spreads are extremely wide compared to historical levels. MBS spreads have been pushing 2%, while the historical norm has been around 80 basis points. This means that if the 10 year stays here, at say 3.8%, and MBS spreads return to normal, that would mean mortgage rates can fall another 100 basis points from here, which would imply a sub 6% mortgage rate.

A sub 6% mortgage rate probably won’t move the needle on the refi market, but it will do a lot on the affordability front. That said, there is a psychological anchoring effect going on, where people remember rates above 7% and will think a rate with a 5% handle is low. Given that HELOCs are still not being offered by a lot of big lenders, the cash-out debt consolidation loan could become in vogue again.

While there is lots of talk about a potential recession, the Atlanta Fed’s GDP Now forecast sees 4% growth in the fourth quarter. This would be extremely rapid growth, however it seems out of step with other forecasts.

This seems surprising given that we are seeing layoff announcements from companies like CH Robinson, which is a logistics company that is sort of a barometer of overall growth. Amazon is looking at cutting costs, which seems strange given that we are heading into the holiday shopping season. I am wondering if the Atlanta Fed is getting some sort of strange reading based on the dollar or inventory build and this will get revised downward later.

Consumer sentiment fell in November, according to the University of Michigan Consumer Sentiment Index. Sentiment for durable goods fell pretty dramatically. Inflationary expectations were unchanged, which is good news for the market, with short run expectations coming in around 5% and longer-term expectations at 3%. Sentiment fell 8.7% compared to October and 19% from a year ago. This is yet another data point that doesn’t square with the Atlanta Fed forecast.

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