All Things in Moderation

Vital Statistics:

Stocks are higher this morning after good numbers from Apple. Bonds and MBS are flat.

The FOMC announcement is scheduled for 2:00 pm EST. A Bloomberg piece from Ex NY Fed President William Dudley was making the rounds yesterday, which poured cold water on the idea that the Fed is entering a new easing cycle.

“All told, the case for lowering rates is less compelling now than it was when the Federal Open Market Committee last met in June. This doesn’t necessarily mean that an interest-rate decrease this week would be a mistake. But it does mean that market participants — who are expecting a series of cuts over the next year or so — might be in for an unpleasant surprise, because the Fed’s future moves will be more dependent on incoming economic data than they think. There’s a good chance that, after this week’s meeting, the central bank will be “one and done.”

If Dudley is right, and Powell’s subsequent press conference confirms this, then the Fed Funds futures market is way over its skis with respect to further rate cuts this year. The December Fed Funds futures are handicapping a 88% chance of at least 50 basis points in rate cuts this year. If the Fed disappoints, that doesn’t necessarily mean that long-term rates would increase, since the US 10 year is highly influenced by overseas bond markets. But further rate cuts are already baked in the cake, and the market will be vulnerable to a statement and / or press conference that is insufficiently dovish. Not only that, don’t be surprised if one or two members dissent (in favor of no rate cut). Might want to think about locking before the 2:00 pm release.

Mortgage Applications fell 1.4% last week as purchases decreased 3% and refis were down 0.1%. Purchase activity is up 6% from a year ago, however it has been stalling out. Refinance applications for conventional mortgages were up 1.1%, however a 3% drop in government (primarily VA) offset the gain. Conventional 30 year mortgage rates were unchanged at 4.04%.

The economy added 156,000 jobs in July, according to the ADP Employment Report. IT and mining fell, while most other buckets increased. The Street is looking for 164,000 nonfarm payrolls this Friday.

The employment cost index rose 0.6% in the second quarter. On a YOY basis, they rose 2.7% as wages and salaries rose 2.9% and benefit costs rose 2.3%.

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Vital Statistics:

Stocks are lower this morning as earnings continue to come in. Bonds and MBS are flat.

The FOMC begins its 2 day meeting today. The decision is expected to come out at 2:00 pm tomorrow afternoon.

Personal consumption and personal incomes came in as expected, with consumption rising 0.3% and personal incomes rising 0.4%. The core PCE inflation index (which is the Fed’s preferred measure of inflation) rose 0.2% month-over-month and 1.6% YOY, which was slightly lower than expectations. Finally, disposable personal income rose 0.4%, while the savings rate was 8.1%. Overall, this report won’t move the needle with respect to the Fed’s thinking about the economy. The economy is moving along, and inflation remains below the Fed’s target rate.

You can see how much the savings rate has increased since the bubble days. Remember when the business press was wringing its hands over the drop in the savings rate?

Home Prices rose 0.2% MOM and 3.4% YOY according to the Case-Shiller home price index. YOY home price appreciation has been decelerating for some time as higher interest rates and higher home prices begin to bite. Erstwhile market darling Seattle reported a YOY decline of 1.2%, while the gainers were Las Vegas, Phoenix and Tampa.

Bloomberg has an interesting chart of the global real estate and looks at home prices versus rents and incomes. It shows Canada and New Zealand as the most vulnerable markets. It doesn’t show China, which has a huge bubble and probably doesn’t fit on the diagram. Scandinavia also has a bubble issue as well. For those that admire the Scandinavian economies, remember that whenever a country appears to have have “cracked the code” economically (like the US in the 20s, Japan in the 80s, etc) it usually has a real estate bubble lurking in the background.

Note that despite all the talk about real estate bubbles in the US, we are actually on the cheap side, as is Japan.

The US vacancy rate was 6.8% for rental properties and 1.5% for homeowner housing in the second quarter of 2019. The homeownership vacancy rate of 1.5% is the lowest since 1981, and illustrates the supply issue that is only going to get worse as homebuilding fails to keep up with household formation.

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Vital Statistics:

Stocks are flattish as we head into FOMC week. Bonds and MBS are up.

The FOMC begins its two day meeting on Tuesday, and is expected to cut rates by 25 basis points. We will also get the jobs report on Friday, so this should be a busy week.

While the Fed is ostensibly cutting rates to ward off a potential recession, the economic data has been surprisingly robust. Despite trade fears, GDP growth in the second quarter topped 2%, and earnings season has been robust. The “Powell Put” as it has been dubbed, is the expectation that rates are going down and that will support the stock market. That said, the global economy is slowing and that is pushing down interest rates. Note the German 10-year is again pushing negative 40 basis points, and the Chinese are having issues in their banking system. Meanwhile, the US consumer is alive and well as the biggest canary in the coal mine for the US consumer – UPS – reported a 14% increase in quarterly profit.

Last Thursday, the CFPB announced that it was willing to let the “GSE patch” expire in 2021. The GSE patch allows loans with DTI ratios above 43 to fit in the QM bucket if they are approved for sale to Fannie Mae or Freddie Mac. “The top line is the patch is going to expire,” [CFPB Director Kathy] Kraninger said in a meeting with reporters. “We are amenable to what a transition would look like.” The CFPB has put out a public request for comment on the new rules, and is working to ensure that there are no disruptions in the mortgage market. This is important given that 1/3 of the Fan and Fred loans have DTIs over 43%. It is possible that FHA will pick up the slack, however FHA has been tightening credit standards as well, requiring FICOs above 620 to go over 43%. Note that a quarter of FHA lending has DTI ratios over 50% (FHA permits up to 57%), but it is more likely that these loans will end up as securitized non-QM loans. There are still many issues to be resolved before the private label market returns to its former glory, but this may force those issues to finally get ironed out. This may be why the government considers this to be a key part of GSE reform – it will shrink the GSE’s footprint in the market, and also increase the credit quality of their loans.

The Trump Administration had indicated they wanted to get GSE reform done before the 2020 election, however that is looking like it won’t happen. Mark Calabria, head of the FHFA, think this is more likely to happen within the next 5 years. By far the biggest issue is whether the government will continue to guarantee MBS issued by the GSEs. The government guarantee was never explicit prior to the financial crisis, and the government floated a trial balloon during the crisis about not guaranteeing these securities. Bill Gross of PIMCO threatened to stop buying Fan and Fred MBS if the government did that and that was the end of that discussion. Note Bill had just loaded up the boat in his Total Return Fund with agency MBS and made a killing when the government formally guaranteed them, so he was talking his book so to speak.

Housing security is a big issue for seniors. With the end of defined benefit pension plans, most people are living on Social Security and savings. One proposal would allow seniors to use pretax earnings in their IRA or 401k plans to pay off mortgage debt without triggering taxes and penalties.

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Vital Statistics:

Stocks are higher this morning after good numbers from Google, sorry Alphabet, and Q1 GDP came in better than expectations. Bonds and MBS are flat.

The US economy grew at 2.1% in the second quarter, a deceleration from the 3.1% recorded in the first quarter, but higher than the Street estimate of 1.8%. Note that the Atlanta Fed’s GDP Now model was predicting only 1.3% growth as of yesterday, which is a big miss, so perhaps this number will eventually get revised down.

In terms of the internals, consumption rebounded rising 4.3%, compared to only 1.1% in the first quarter. Inflation rose 2.3% on the headline number, while the core PCE rose 1.8%. Disposable income rose 4.4%, or 2.5% after inflation and the savings rate fell from 8.5% to 8.1%. Trade was a drag on growth, with exports falling 5.2% and imports flat. Investment was disappointing, falling 5.5% however the first quarter was revised upward from 1% to 3.1%. The economy’s old bugaboo, housing, fell 1.5%. It is strange to think we have a such pent-up demand for housing yet it remains a headwind but here we are. Inventories fell as well.

The Fed Funds futures moved slightly. A rate cut next week is more or less a sure thing, and the futures are predicting an 80% chance of a 25 bp cut and a 20% chance of a 50 bp cut. This is realistically the last data point before the Fed meets next week, although consumption and PCE will be released on the day the meeting begins.

The homeownership rate fell in the second quarter, falling to 64.1% from 64.2% in the previous quarter. This rate of 64% was more or less the norm prior to the big homeownership push from the government in the mid 90s. It topped 69% during the bubble years and then fell below 63% during the bust. The rental vacancy rate was flat at 6.8%, which again is consistent with historical norms. It is an interesting series the vacancy rate was quite low during the high interest rate 1970s and quite high during the bubble years.

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Vital Statistics:

Stocks are flat as we await earnings from market heavyweights like Amazon and Alphabet. Facebook’s numbers beat the street, while Tesla disappointed. Bonds and MBS are down small.

New home sales came in weaker than expected, but at least exhibited positive growth. In June, we saw new home sales of 646,000, which was up 7% MOM and 5% YOY. New home inventory 338k units, which represents a 6.3 month supply.

Durable Goods orders rose 2% in June, according to Census. Ex-transportation, they rose 1.2%, and ex-transportation and defense they rose 3.1%. Non-defense capital goods orders (ex-aircraft) rose 1.9%, which shows that businesses are expanding capacity.

In other economic news, initial jobless claims fell 13k to 206,000.

The ECB opened the door to future stimulus this morning, saying they saw rates lower over the next 12 months. The German Bund is slightly stronger, however we are still close to record low yields at negative 37 basis points. The Bund set a record for the longest streak of days in negative territory – now 79. This eclipses the record set in 2016. What exactly does “negative yield” mean? It means the German 0s of ’29 is trading at 103.66. It is a zero coupon bond, meaning it pays no periodic interest. You pay 103.66 and on August 15, 2029, you will get back 100.

To get an idea of how much things have changed in Europe, remember the PIIGS? The PIIGS were an acronym for Portugal, Italy, Ireland, Greece, and Spain – all high-yielding sovereign debt that had fiscal issues. Where are they now? All yielding less than the US 10 year, with Greece at 1.95%, Portugal at 38 basis points, Ireland at 11 basis points, Italy at 1.48% and Spain at 33 basis points. Don’t forget, a huge swath of the European corporate sector trades with negative yields.

Most (if not all) of these countries have debt-to-GDP ratios well over 1, so we are seeing a real-time test of the hypothesis that government debt levels don’t matter. The granddaddy of debt to GDP ratios is Japan, sitting at 2.4x and its 10 year bond yields negative 15 basis points. Who knows how all this ends up, but we have a global sovereign debt bubble of epic proportions.

Bill Gross used to call the US the “cleanest dirty shirt” in the world. Indeed. For all the handwringing over debt to GDP ratios, the US debt to GDP ratio sits at just over 1, and a good chunk of that is owned by the Fed. Essentially, the low yields overseas cannot help but act as an anchor for US yields, which means unless the bubble overseas pops, I can’t see an impetus to push rates dramatically higher. And the first rule of bubbles is that they go on longer and go further than anyone expects.

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Vital Statistics:

Stocks are lower this morning as earnings continue to come in. Bonds and MBS are flat.

Today is a big day for earnings, with numbers coming out for Ford, Boeing, Caterpillar, Facebook, and Tesla.

House prices rose 0.1% in May, according to the FHFA House Price Index. They were up 5% on a YOY basis. Home price appreciation has been decelerating across the board, but it is most pronounced in the Pacific and Mountain regions.

Mortgage Applications fell by 2% last week as purchases and refis fell by the same amount. This was despite a 4 basis point drop in rates.

Existing Home Sales fell 1.7% in June, according to NAR. “Home sales are running at a pace similar to 2015 levels – even with exceptionally low mortgage rates, a record number of jobs and a record high net worth in the country,” said Lawrence Yun, NAR’s chief economist. Yun says the nation is in the midst of a housing shortage and much more inventory is needed. “Imbalance persists for mid-to-lower priced homes with solid demand and insufficient supply, which is consequently pushing up home prices,” he said.

Inventory was 1.93 million units, which represents a 4.4 month supply. Historically a balanced market had 6 – 6.5 months’ worth of supply. As Yun notes above, there is a big mismatch in inventory, with a complete dearth of properties at the low / mid price points. McMansions abound, however. Despite these issues, the first time homebuyer accounted for 35% of sales in June, which is approaching the historical norm of 40%. The first time homebuyer had been largely MIA for most of the post-crisis timeframe, accounting for 30% of sales (or even less). On the flip side, investors (represented by all cash sales) fell to 10%. With home price appreciation leveling out, we may start to see some funds who raised capital for the REO-to-Rental trade in the aftermath of the crisis ring the register and sell some of these properties as the funds wind down. Certainly cap rates are not what they were 10 years ago.

The median home price reached an all-time high of 285,700. Sentier Research has the median income at $63,400 as of May 2019. This puts the median house price to median income rate at just about 4.5x. Historically this is a very high number, however it is important to note that interest rates will influence this number. If you look at other metrics besides incomes and prices, homes are not that expensive on a historical basis.

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Vital Statistics:

Stocks are up this morning after Mr. Softee beat earnings estimates. Bonds and MBS are up small.

Signs of a recession? Not really. The Conference Board’s Index of Leading Economic Indicators was flat at -.3% in June, while the markets were expecting an uptick. “The US LEI fell in June, the first decline since last December, primarily driven by weaknesses in new orders for manufacturing, housing permits, and unemployment insurance claims,” said Ataman Ozyildirim, Senior Director of Economic Research at The Conference Board. “For the first time since late 2007, the yield spread made a small negative contribution. As the US economy enters its eleventh year of expansion, the longest in US history, the LEI suggests growth is likely to remain slow in the second half of the year.”

New York Fed Head John Williams sent bond yields lower yesterday when his prepared remarks to an academic conference were released. They said: “Take swift action when faced with adverse economic conditions” and “keep interest rates lower for longer” when you do cut rates.” The markets immediately took this as an endorsement for a 50 basis point cut when the Fed meets next week. A spokesman from the NY Fed clarified that comment later, saying that he was referring to studies based on 20 years of monetary policy and was not referring to the FOMC meeting next week. A cut next week is pretty much expected, and the only question is whether it will be 25 or 50 basis points.

After Williams’ comments, the Fed Funds futures actually started handicapping a 70% chance for a 50 basis point cut and only a 30% chance of a 25 basis point cut. They had previously been forecasting a 25% chance for a 50 basis point cut. They ended up settling on 40% chance. There is some more Fed-speak today, and then they will enter the quiet period ahead of next week’s meeting.

FHFA Director Mark Calabria says the Trump Administration should be releasing a plan to deal with Fannie and Freddie sometime in August or September.

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Vital Statistics:

Stocks are flattish after erstwhile market darling Netflix stunk up the joint with lousy earnings. Bonds and MBS are up small.

Initial Jobless Claims were flat at around 219k last week.

Negotiations continue over spending and the debt ceiling, which will probably be hit in September. Treasury Secretary Steve Mnuchin cited “progress” in negotiations, and there is general agreement on the “top line” which includes spending increases from the previous year. That said, Republicans want some spending cuts elsewhere to offset the increase, and Democrats are against cuts. We’ll see if this goes to the mat (and another shutdown), but in the end, we’ll probably just raise the ceiling again and things will go on their merry way. Remember the last time we had a long shutdown, lenders were unable to get tax transcripts out of the IRS so it is something to keep in mind.

The Fed’s Beige Book of economic activity showed that the economy continued to expand at a “modest” pace, with slightly higher sales and flat manufacturing. Employment grew at a modest pace, and appears to be decelerating somewhat, especially as the slack in the labor market gets taken up. The Boston Fed noted that tariffs are having a negative effect, and at least one company is moving some production overseas to escape them. The proposed 5% tariff on Mexican goods was mentioned as a significant shock.

Canary in the coal mine for international asset markets, particularly China? International buyers of US residential real estate fell by 36% over the past year, following a 20% decrease in the prior year. China has been dealing with a real estate bubble for years, and prices are way out of whack compared to incomes – you can see just how bad it is here. This may explain some of the emerging weakness at the high end, especially in the big West Coast markets like San Francisco, Vancouver, and Seattle. The first step in any bursting bubble is a “buyer’s strike,” followed by rising inventory, and then finally a market-clearing event. We may be at the first stage right now.

Macroeconomically, a downturn in China means several things. First, they are going to try and export their way out of it, which means more trade tensions especially if they go the currency devaluation route. Second, it will mean a global growth slowdown, which will act as an anchor on global interest rates. Don’t worry about inflation, the world is awash in capacity. Finally, it could mean a return to a time like the 1990s, where the US was able to have its cake and eat it too, with fast growth but little to no inflation. I wonder if the Fed sees the same thing (after all central bankers do coordinate policy somewhat) and that is part of the reason why they are planning on easing when there is absolutely zero evidence the US is entering a recession.

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Vital Statistics:

Stocks are flat as bank earnings continue to come in. Bonds and MBS are up.

Another month, another disappointing housing starts number. Starts fell from an annualized pace of 1.3 million to 1.22 million in June, according to Census. Building permits were a mixed bag, falling to 1.25 million, however May’s numbers were revised upwards. Both starts and permits were below street expectations.

Despite the disappointing housing starts number, builder confidence rose one point to 65 in July. Demand remains strong, however labor shortages, few buildable lots and rising construction costs are making it difficult to build at the lower price points, where the demand is particularly acute.

Mortgage applications fell 1.1% last week as purchases fell by 3.8% and refis rose 1.5%. Rates increased, with the 30 year fixed rate mortgage rising by 8 basis points to 4.12%.  “Mortgage rates increased across the board, with the 30-year fixed rate mortgage rising to its highest level in a month to 4.12 percent, which is still below this year’s average of 4.45 percent,” said Joel Kan, MBA Associate Vice President of Economic and Industry Forecasting. “Coming out of the July 4 holiday, applications were lower overall, with purchase activity slipping almost 4 percent. Refinance applications increased, with activity reaching its highest level in a month, driven mainly by FHA refinance applications. Historically, government refinance activity lags slightly in response to rate changes.”

Bank of America reported strong earnings this morning. Mortgage origination volume was up 56% YOY to $18.2 billion.  Separately, Quicken announced they originated $32 billion in the second quarter.

Second quarter growth in China fell to 6.2%, the lowest level in 27 years. The implications for this will revolve primarily around inflation and Fed policy. The Chinese economy has a real estate bubble of epic proportions, and once that bursts it will have ramifications in the urban high-end market, but it will also be felt in lower inflation numbers. China will probably try and export its way out of the slowdown, although tariffs will make it difficult. That said, a slowdown in emerging Asia and Europe will usher in even lower interest rates.

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