All Things in Moderation

Vital Statistics:

Stocks are higher this morning after global markets recovered overnight. Bonds and MBS are flat.

We should get the FOMC decision today around 2:00 pm EST. Be careful locking around then. The consensus seems to be that this will be a no change / hawkish tone type of statement.

This will be Janet Yellen’s last FOMC meeting. Jerome Powell seems to be cut more or less from the same cloth as Yellen, so the Fed’s go-slow approach to hiking interest rates will probably continue.

Treasury increased the size of its debt issues for the first time since 2009 this morning on the back of increased deficit spending and lower purchases from the Fed. They are offering $66 billion of 3, 10, and 30 year notes this time around, an increase from $62 billion in November. Less purchasing by the Fed plus increased issuance = higher interest rates, at least at the margin.

Mortgage Applications fell 2.6% last week as both purchases and refis fell by the same amount. The average 30 year conforming rate increased 6 basis points to 4.41%

The ADP jobs number came in at 235,000 last month, which was higher than expectations. The Street is looking for 175,000 jobs in this Friday’s jobs report.

Compensation is accelerating, according to the Bureau of Labor Statistics. The Employment Cost Index rose 0.6% in the fourth quarter, and is up 2.6% YOY. Private Industry compensation rose faster than government, with wages and salaries up 2.8% YOY. A year ago, that annual increase was 2.3%. The industry with the biggest increase? Truck drivers.

The “typical” mortgage payment rose 12% last year, according to CoreLogic. This measure takes the median home price and calculates the principal and interest payment using the prevailing Freddie Mac mortgage rate and assumes a 20% down payment. They are looking for this payment to increase another 13% next year as home prices and interest rates continue to rise.

Pending home sales rose 0.5% in December, according to NAR. Home sales are being depressed by tight inventory despite strong growth in wages and jobs.

Filed under: Economy, Morning Report | 5 Comments »

Vital Statistics:

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

The FOMC meeting starts today. This will be Janet Yellen’s last hurrah, and that will probably dominate the news more than whatever decision they make.

Consumer Confidence improved in January, according to the Conference Board. Confidence is at levels not seen since the late 90s.

Home price appreciation continues its torrid pace, according to the Case-Shiller Home Price Index. The housing market is partying like it is 2005, with the usual suspects (San Diego, LA, Lost Wages) leading the charge. Case-Shiller Chief Economist David Blitzer had this to say about home price appreciation: “Home prices continue to rise three times faster than the rate of inflation… Given slow population and income growth since the financial crisis, demand is not the primary factor in rising home prices. Construction costs, as measured by National Income and Product Accounts, recovered after the financial crisis, increasing between 2% and 4% annually, but do not explain all of the home price gains. From 2010 to the latest month of data, the construction of single family homes slowed, with single family home starts averaging 632,000 annually. This is less than the annual rate during the 2007-2009 financial crisis of 698,000, which is far less than the long-term average of slightly more than one million annually from 1959 to 2000 and 1.5 million during the 2001-2006 boom years. Without more supply, home prices may continue to substantially outpace inflation.”

The lack of supply is puzzling, however part of what has pushed demand higher has been affordability due to decreasing interest rates and increasing wages. Home price unadjusted for inflation are back to bubble levels, however when you take into account inflation, they are not. As I argued before, affordability is a function of interest rates as much as it is about home prices. Borrowers focus on the monthly payment, not necessarily the sticker price. As far as the lack of supply, I think a lot of this is standard post-bubble psychology, where lenders and builders become more risk-averse (and often overcorrect to the other direction). Yes, regulation does play a role here, however post-bubble recoveries generally are weaker than normal because of this change in psychology. Eventually fear of being caught with too much inventory translates into fear of missing out. Despite years of below-average inventory, we aren’t there yet.

The outlook for housing this year remains similar to what we have seen for the past several years – tight inventory constraints will keep sales down while rising interest rates will affect affordability. The bottleneck is tightest at the lower price points – where the first time homebuyer is most likely to be found. The latest NAR exiting home sales report has supply overall around 3.2 month’s worth. At the entry level, it is even tighter: in the price range of $125k – $250K, it is probably around 2.7 months or so. Unsurprisingly, we are seeing the biggest price appreciation in that segment as well. Here is a chart of inventory over time: We are at levels last seen during the bubble years:

Tonight Donald Trump will give his State of the Union Speech in front of Congress. The focus will be a $1.5 trillion infrastructure plan. Part of the plan will include a process for streamlining the approval process. Gary Cohn had this to say on CNBC: “He’s going to talk about a trillion and a half dollars of investment, but more importantly, he’s going to talk about streamlining the approval process on infrastructure,” Cohn said. “Right now, we have an infrastructure approval process that takes seven to 10 years to build relatively simple roads. We need to streamline that to less than two years.”

I talked about the Mick Mulvaney memo to CFPB staffers and how they intend to end regulation by enforcement action, which was the MO of the Obama / Cordray regime. The Labor Department is also ending another Obama policy of refusing to give guidance to companies that ask for it. This is yet another example of the regulatory environment taking a less adversarial approach to the private sector, and this should translate into a stronger economy and mitigate some of the risk aversion I alluded to earlier.

Tax reform is translating into more business spending headlines. Exxon-Mobil plans to add another $35 billion to its previous $15 billion expansion, and Pfizer plans to invest $5 billion. Given that capacity utilization is still historically low, this is somewhat surprising. Eventually, these newfound animal spirits have to affect the homebuilders, right?

Years of central bank manipulation of the risk free rate has created a slew of questionable investments. Remember the PIIGS? (Portugal, Ireland, Italy, Greece, and Spain – the high yielding Euro states with massive budget issues?) Portugal has lower yields than the US right now. The Japanese Central Bank has been directly buying Japanese equities. If there is one “black swan” out there right now, it is the mal-investment that has been driven by central banks pushing yields to the floor in order to support asset prices.

Filed under: Economy, Morning Report | 28 Comments »

Vital Statistics:

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

This should be a big week for the bond market, with the FOMC meeting in the middle of the week and the jobs report on Friday. No move is expected at the FOMC meeting, but people will focus on the language of the statement. Since this is Janet Yellen’s last meeting most of the attention will probably be on her and not the statement.

Aside from the Fed meeting this week, Treasury will announce 10 and 30 year bond issues, and the expectation is that it will be the first increase since 2009. With Treasury selling more paper, while the Fed cuts its purchases, it could be a rough week for bonds.

Personal Incomes and Personal Spending rose 0.4% in December. The PCE price index was up .1% MOM / 1.7% YOY and the core PCE price index was up .2% MOM and 1.5% YOY. This puts the core PCE index at an increase of 1.5% for the year, and marks the 6th year in a row inflation has undershot the Fed’s target. The savings rate is the lowest since 2005.

Freddie Mac’s total loan portfolio increased 9% on an annualized basis in December. Their DQ rate slipped from 1.08% to .97%.

Home prices rose annually for the 67th consecutive month to $283,000 according to the Black Knight Financial Services Home Price Index. The MOM gain was .27%. As of November, home prices were up 6.5% for the year.

Filed under: Economy, Morning Report | 23 Comments »

Vital Statistics:

Stocks are higher this morning as Trump speaks in Davos. Bonds and MBS are up small.

The first estimate for 4th quarter GDP came in at 2.6%, a touch below the 2.9% Street estimate. THis was a drop from the 3.2% growth rate in the third quarter. A larger-than-expected trade deficit, along with some inventory adjustments accounted for the miss. It will be revised twice more in the next month or so. The GDP price deflator (a measure of inflation) was 2.4% and consumer spending was a robust 3.8%.

Housing increased 6.8% and accounted for about .84% percentage points of the growth. Housing construction will be the engine that will pull the economy going forward. We have tremendous demand for new housing and tight labor markets. Getting back to normalcy (1.5 million units a year) in housing starts will make a big difference. If we get to what is typically observed coming out of a recession (2 MM +) we will be looking the best economy since the 90s.

The Fed Funds futures didn’t really react much to the reading, and are currently handicapping a 71% chance of a 25 basis point hike at the March meeting. Next week’s meeting is expected to maintain the current Fed Funds rate.

Durable Goods orders increased 2.9% last month, which was better than expectations. Ex-transportation they rose 0.6%. Capital Goods orders fell 0.3%. On a YOY basis, all numbers were up smartly: Durable goods up 8.2%, DGXT up 7%, Cap goods up 8.1%. More evidence of a strong economy.

Donald Trump spoke at Davos. He stressed that America is open for business and that he is willing to negotiate multilateral trade agreements (think TPP). He mentioned tax reform and that America is open for business.

A non-profit in New Mexico has come up with a concept to help get homeowners in their first home without much of a downpayment and without MI. They issue 2 mortgages, one for 80% of the loan, which is sold on the secondary market without MI, and then a second loan for 18%, which they hold. Supposedly the performance metrics for these loans are better than the control group.

Filed under: Economy, Morning Report | 17 Comments »

Vital Statistics:

Stocks are down as the government shutdown is over for the moment. Bonds and MBS are up on the back of the Bank of Japan continuing its stimulative measures.

Democrats agreed to end their filibuster over funding the government yesterday in exchange for an extension of the CHIP program. We will re-convene in 3 weeks to discuss immigration, etc. It turned out that the polls never really went the way Democrats had hoped.

The global risk appetite is about as extreme as it has ever been, according to Goldman. So far this year, stocks have been the big winner, while bonds have been the big loser. Is this misplaced? Global growth is the best it has been in a decade, and the world’s second biggest economy (Japan) may have finally turned the corner. Bank executives in Davos are worrying about financial complacency and the possibility of bubble-style thinking. I think it pays to differentiate between what the markets are saying and what is actually happening for businesses right now. While investors may be willing to pay anything for growth, business in general is not. US business has been in maintenance mode with respect to capital expenditures for the past decade and the fear of having too high of a cost structure is still greater than the fear of missing out on business. It has been this way since the stock market bottomed, and might have more to do with global central bank liquidity measures than actual business psychology. The million dollar question: does this circle get squared via a more robust business expansion? Or does it happen via a stock market deflation as global central banks normalize policy?

China is mulling a property tax to tame its real estate bubble. The normal transaction costs that are seen in the US (6% brokerage fees, property taxes) are much lower in China, which has helped fuel their bubble. When it bursts, they will probably deal with it the way Japan did – imposing so many costs to transacting that sales dry up. It prevents fire sales, but it also means the economy will be stuck in a deflationary environment for a long time.

Delinquencies increased in December, primarily driven by the hurricanes last fall and general seasonality. On the other hand, foreclosure starts hit a post-crisis low, falling to 44,500. The number of homes in foreclosure decreased by 32% YOY.

Filed under: Economy, Morning Report | 27 Comments »

Vital Statistics:

Stocks are flat as the government shutdown goes into a third day. Bonds and MBS are flat.

For all of the sturm and drang about the government shutdown, the markets don’t care. Hopefully people who needed tax transcripts took care of business early.

Bond yields blew through support last Friday, and the Ginnie Mae TBAs are in a bit of a transition. The higher coupon TBAs hadn’t really begun trading with any sort of volume, which made it hard to get note rates above 5 1/8%. Since bonds are pretty much unchanged this morning we should see those note rates open up (hopefully) today.

Note some bond bears see the early part of the year as the time to sell bonds. This is similar to the “sell in May and go away” advice that stock investors sometimes heed. It turns out that since 1998, bond yields have increased ever so slightly in the first 5 months of the year, and have fallen pretty dramatically in the final 7 months. Is there any sort of economic explanation? No. Which means it is just a coincidence.

The upcoming week won’t have much in the way of market-moving data except for Friday, which will have durable goods and GDP. Fed-speak is also minimal ahead of the FOMC meeting next week. The markets are predicting nothing is going to happen at the Jan meeting. We will get some non-market moving housing data with new home sales, existing home sales, and the FHFA House Price Index. We are in the heart of earnings season, and that will dictate stock price movement.

The World Economic Forum begins this week in Davos, which means we will get to see a lot of economists get interviewed in the snow on CNBC and Bloomberg TV. Don’t expect to hear anything market-moving. The global economy is doing just fine at the moment, although I am sure bigwigs at the IMF, World Bank, and various Central Banks will find something to fret about. They should probably worry more about their economic forecasts. The Bank of England was dead-set against Brexit, and thought that leaving the EU would crash the economy. Their forecasts missed the mark by a country mile. As a general rule, investors should leave their political preferences at the door when it comes to making investment decisions.  Combining political ideology with economic / market forecasting is inevitably a recipe for disaster.

Economic activity continued to exhibit strength in December, according to the Chicago Fed National Activity Index. Production-related indicators (sales, orders, inventory) improved in December, while employment indicators were more or less flat compared to November.

The post-crisis financial regulatory environment has created a shortage of appraisers. While this has largely affected mortgage lending, banks are now using Broker Price Opinions (BPOs) for transactions that involve rental properties. These used to be called “drive-by” appraisals, as the analyst would drive past the property and look at it without entering. Nowadays, these appraisals are outsourced to India, where analysts basically come up with a valuation using Google Earth and comps. Even Fannie Mae used BPOs for a transaction last year. The ratings agencies will haircut the BPO valuation by 10% or so when doing a collateral evaluation.

One of the telltale signs at the peak of a market bubble, according to Charles Kindleberger in his book Manias, Panics, and Crashes is the emergence of swindles. The largest private bank in China has turned out to be a fraud. China has a massive real estate bubble on its hands, and it will burst at some point (this year, next decade, who knows?) However, once it bursts, the economic playbook says that China will export deflation the way Japan did in the 90s, which means lower interest rates and lower inflation overall.

Speaking of bubbles, the liberal Brookings Institute thinks that 40% of student loans from the 2004 cohort could default. This isn’t chump change, either: a total of $1.4 trillion in student loan debt is outstanding. This is another reason why the Fed is so interested in creating inflation (despite what they say about it). Inflation is a debtor’s best friend, as wages rise with inflation, but fixed rate debt stays the same, which reduces the drag on spending and economic growth over time. Until that happens, the first time homebuyer will probably continue to rent, at least at the margin.

Home prices increased 7% in 2017, according to Redfin. As usual, inventory remains the biggest problem in the real estate market.

Filed under: Economy, Morning Report | 46 Comments »

Vital Statistics:

Stocks are higher this morning as we head into the deadline to keep the government open. Bonds and MBS are flattish.

Consumer sentiment slipped in early January, according to the University of Michigan Consumer Sentiment survey. The reading fell to 94.4 from 97 in December.

The House passed a 1 month continuing resolution yesterday and all eyes turn to the Senate, where Democrats are demanding action on immigration in exchange for a vote to keep the lights on. If they can’t come to a deal, the government will shut down at midnight. This will be a little different than it was during the Obama years: Obama wanted the public to feel the pain of the government shutting down, so he made it as visible as possible. Trump is going to do the exact opposite. National Parks will still be open, although the rangers will be off duty. Tax transcripts were held up the last time the government shut down, so hopefully everyone planned accordingly.

So far, the markets are treating the drama in DC as a sideshow. The US dollar, bond yields, and stock prices don’t care. The 10 year is trading right at technical support right now, so if it breaks through that level, technical analysts are thinking the next level is 3%.

Are credit scores preventing people from getting mortgages? Some are arguing that the old FICO scores are outdated and the GSEs should open up credit scores for competition. There is always the fear that competing credit scores will create a race to the bottom, where the most lax score wins, but that is probably overblown. Most originators won’t touch the lowest permissible scores to begin with, so changing the number will probably only result in them changing their overlays to maintain the same credit profile as before.

They say all real estate is local, and from what we have seen prices are rising rapidly. Are there pockets of weakness still? In fact there are, in the super-rich bedroom community of Greenwich, CT. Last quarter, prices fell at high end by almost 14%, the most since 2008 when Lehman Brothers collapsed. Sellers are tired of waiting years to get the price they want, and are finally getting realistic about the new market conditions. One estate, which was originally listed at $65 million ended up going for $21 million. The bottom line for Greenwich is that the financial industry, which really supported the area, has changed and probably isn’t coming back to pre-bubble levels. This also explains Connecticut’s budget issues as well – the rich communities in Fairfield County largely supported the state.

Labor shortages are starting to push up wages, especially for skilled workers. Yesterday’s initial jobless claims number was the lowest in 45 years. The markets and the Fed are forecasting 3 rate hikes this year. The risk is probably that this estimate is too low. The markets have been bumping up their March forecast. which currently stands at a 73% chance of a 25 basis point rate hike, up from 61% a month ago.

The CFPB made its budget request for the first quarter, and the number is…. $0.00. The agency has $177 million in the bank (so to speak) and has a budget of $145 million, so they aren’t asking for any more money.

The Senate is working on a housing reform plan that would wind down Fannie and Fred and replace them with up a large number of private guarantors with a catastrophic government backstop. The Senate differs from FHFA here – FHFA wants a small number of guarantors to operate under a regulated utility model to prevent a race to the bottom, while the Senate envisions no limit. One other big change – the elimination of affordable housing goals, which will be replaced with incentives. This will almost certainly anger liberals, who were able to kill housing reform in 2014 over that exact issue.

Want to be master of the universe? Try the Monetary Policy Game.

Filed under: Economy, Morning Report | 54 Comments »

Vital Statistics:

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

The House looks ready to pass a one-month stopgap measure to keep the lights on. Senate Democrats are considering blocking it in order to push immigration reform, but nothing is set in stone. Bottom line, the odds of a government shutdown tomorrow are falling.

Initial Jobless Claims came in at 220,000 last week. This is a 45 year low. When you take into account population growth and the fact that we had a military draft back then that number is astounding.

The Beige Book was released yesterday, and contained no major surprises. Growth is “modest to moderate” in most districts and the labor market is tight, to the point of constraining growth. They mentioned that we are seeing wage inflation more broadly in some districts, while inflation is generally under control. Separately, the Philly Fed report showed that growth eased somewhat, however it is still very strong.

Housing starts came in at 1.19 million units (annualized), which was a big disappointment. Hurricane effects probably played a part, as many construction workers are being diverted to repair work. We did see a substantial (14%) drop in starts in the South. Building Permits came in at 1.3 million. All told, 1.2 million housing units were started in 2017, which was more or less flat with 2016. This is about 80% of the pre-bubble average of 1.5 million units a year.

Mel Watt discussed housing reform in a letter to the Senate Banking Committee. He urged lawmakers to establish a guarantor framework where shareholder-owned entities guarantee mortgages with a government backstop and a utility model. The utility model means that pricing will be set by the government in order to set an allowable rate of return for the company and nothing more, similar to how gas and electric companies are run. If one of the guarantors runs into trouble, they will be allowed to fail, however the mortgages they guarantee will be backstopped by the government, thus protecting MBS investors. The document also recommended that these guarantors offset their credit risk in the private market when economically feasible and that they hold enough capital to withstand another 2007.

Filed under: Economy, Morning Report | 60 Comments »