Morning Report: Credit spreads still behaving

Vital Statistics:

S&P futures4,52513.2
Oil (WTI)109.32-2.79
10 year government bond yield 2.38%
30 year fixed rate mortgage 4.70%

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

We have a lot of Fed-speak today, with 4 different speeches.

Consumer sentiment slipped in March, according to the University of Michigan Consumer Sentiment Survey. Rising gasoline prices are weighing on sentiment.

Mortgage delinquencies ticked up in February, according to Black Knight. Overall, mortgage delinquencies remain close to pre-pandemic levels however. Foreclosures starts fell 25% YOY to 25,000. Prepays hit a 3 year low, falling another 11%. This should boost servicing values, although MSRs are already pretty elevated, pricing – wise.

As the Fed raises interest rates, the fear is that it might tip the economy into recession. This is a valid fear, and sometimes that is necessary to beat inflation. The Fed managed to raise rates without triggering a recession in 1994 and 1984, however the situation now is different. Inflation is much higher and rates are much lower. On the plus side, the economy is pretty resilient, and just-in-time concepts of inventory management didn’t really exist in the early 80s, and were just coming into practice in the early 90s. The biggest driver of recessions is inventory build, and today’s inflation is being driven by a lack of inventory. So that probably won’t be an issue.

If we are heading into a recession, we should see a couple of things. First, an inversion of the yield curve. This happens when long-term rates are lower than short term rates. For example, if the Fed hiked the Fed Funds rate to 2.5% and the 10 year yield stayed at 2.35%, that would be an inverted yield curve. The other thing to watch is credit spreads. Credit spreads are the incremental return investors demand for taking credit risk. Rising credit spreads usually portend pain in the financial sector.

As of now, high yield credit spreads are behaving well.

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