All Things in Moderation

Vital Statistics:

Stocks are lower this morning after the personal incomes and outlays release disappointed on the inflation front. Bonds and MBS are up.

Personal Incomes rose 0.3% in August, which was more or less in line with expectations. Personal consumption expenditures rose 0.4% which was better than expected.

The PCE Price Index (which is the Fed’s preferred measure of inflation) rose 0.3% MOM and 6.3% YOY. Both numbers were .1% higher than expectations. Same for the core rate (ex-food and energy) which rose 0.6% MOM and 4.9% YOY.

The core PCE Index is the inflation indicator the Fed prefers to use when making policy. The monthly changes tell the story and are the market’s focus. Does this chart of the monthly core numbers look like a deceleration? IMO, not yet. It looks like the July reading was an outlier, so it doesn’t really hint at a deceleration, at least not yet.

Consumer sentiment decreased in September, according to the University of Michigan Consumer Sentiment Index. The bright spot in the report was the readings on inflationary expectations:

The median expected year-ahead inflation rate declined to 4.7%, the lowest reading since last September. At 2.7%, median long run inflation expectations fell below the 2.9-3.1% range for the first time since July 2021. Inflation expectations are likely to remain relatively unstable in the months ahead, as consumer uncertainty over these expectations remained high and is unlikely to wane in the face of continued global pressures on inflation.

It turns out that the Fed pays close attention to this number, and the 2.7% expected long-run inflation is approaching the Fed’s 2% goal.

Angel Oak laid off about 20% of its workforce and replaced its CEO. The layoffs were mainly in operations in order to get capacity down to the new normal of reduced mortgage origination volume. Non-QM is highly sensitive to dramatic moves in interest rates since TBAs don’t correlate as tightly with this product as they do with other mortgage rates. This means that these loans are unhedgeable, or at least the hedges are imperfect. So when the market makes a dramatic move the market for them sort of dries up.

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Vital Statistics:

Stocks are lower this morning after Chicago Fed President Charles Evans reiterated hawkish comments. Bonds and MBS are down.

Second quarter GDP declined 0.6% in its third revision. This was unchanged from the second revision. Personal consumption expenditures were revised up from 1.5% to 2.0%. The PCE Price Index (i.e. inflation) was revised upward as well from 7.1% to 7.4%. Construction and durable goods manufacturing were drags on GDP.

So far the carnage in the financial markets hasn’t affected the labor market. Initial Jobless Claims fell to 193k last week. Historically sub-200k readings are exceedingly rare.

Finance of America is supposedly shutting down it retail mortgage origination business to Guaranteed Rate. It will also shut down its wholesale channel. This is all speculation – the company is not commenting. It sounds like it will retain the reverse mortgage business, and Incenter which is its MSR business. Capacity continues to be drawn out of the business.

Home affordability is well below historical averages, according to analysis by ATTOM. The combination of rising rates and home prices are the big driver. The bright spot is that incomes are rising as well. In fact, the portion of average wages required to support housing expenses fell from 30.9% to 30%.

“Homeownership remains largely unaffordable for the majority of homebuyers in the majority of markets across the country,” said Rick Sharga, executive vice president of market intelligence at ATTOM. “While home prices have declined a bit quarter-over-quarter, they’re still higher than they were a year ago, and interest rates have essentially doubled. Many prospective homebuyers simply can’t afford the home they hoped to buy, and in many cases no longer qualify for the mortgage they’d need.

Home price appreciation has slowed dramatically in most markets – and there are even price corrections in some areas – as home sales have declined significantly over the past few months,” Sharga added. “But mortgage rates have risen more rapidly and dramatically than they have in several decades, and as a result a monthly mortgage payment today is 35-45 percent higher than a year ago, making affordability too much of a challenge for many would-be buyers.”

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Vital Statistics:

Stocks are flattish this morning after US Treasury yields hit 3.94% overnight. Bonds and MBS are up.

Treasury yields spiked overnight on speculation that the Bank of Japan would intervene to support the yen by selling Treasuries. Regardless, global yields have been on a tear, with the German Bund now yielding 2.15%. Just over six months ago, the yield on the Bund was negative.

New Home Sales rose 29% MOM to a seasonally-adjusted annual pace of 685,000. This was flat YOY. I don’t think this means much in of itself – the standard errors for new home sales estimate are typically huge. I wouldn’t be surprised to see this one revised downward in coming months.

Consumer confidence improved in August, according to the Conference Board. These consumer confidence numbers are highly correlated with gasoline prices, however there is some good news about inflationary expectations.

“Consumer confidence improved in September for the second consecutive month supported in particular by jobs, wages, and declining gas prices,” said Lynn Franco, Senior Director of Economic Indicators at The Conference Board. “The Present Situation Index rose again, after declining from April through July. The Expectations Index also improved from summer lows, but recession risks nonetheless persist. Concerns about inflation dissipated further in September—prompted largely by declining prices at the gas pump—and are now at their lowest level since the start of the year.”

Mortgage applications fell 3.7% last week as purchases fell 0.4% and refis fell 11%. The refi index is 84% lower than it was a year ago. “Applications for both purchase and refinances declined last week as mortgage rates continued to increase to multi-year highs following more aggressive policy measures from the Federal Reserve to bring down inflation,” said Joel Kan, MBA’s Associate Vice President of Economic and Industry Forecasting. “Additionally, ongoing uncertainty about the impact of the Fed’s reduction of its MBS and Treasury holdings is adding to the volatility in mortgage rates.”

The part about uncertainty is important. The Fed was relying on runoff to allow its portfolio of MBS to shrink. With refinances out of the picture, normal purchase activity will have to do the job. Which means the Fed might be pushed to sell some of its portfolio directly into the market. Jerome Powell was asked about that in his press conference following the September FOMC meeting. He basically said that this is nothing they are considering right now.

Speaking about mortgage backed securities, the mortgage REITs have been absolutely pummeled over the past week. AGNC Investment, which buys almost entirely agency securities is down 17% over the past 5 days. Annaly, which just did a reverse stock split is down by 16%. I am wondering if we are seeing margin calls again in the space. The stocks sure are acting like it.

Pending Home Sales slipped 2% in August and are down 24% on a YOY basis. “The direction of mortgage rates – upward or downward – is the prime mover for home buying, and decade-high rates have deeply cut into contract signings,” said NAR Chief Economist Lawrence Yun. “If mortgage rates moderate and the economy continues adding jobs, then home buying should also stabilize.”

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Vital Statistics:

Stocks are rebounding after yesterday’s bloodbath. Bonds and MBS are down again.

The FHFA House Price index fell 0.6% MOM in July, but is still up 13.9% on a YOY basis. This index only looks at mortgages within the conforming loan limits, so it is more centered on the median home since it ignores the luxury market and cash-only transactions.

“U.S. house price index posted its first month-over-month decrease in July since May 2020 when the U.S. economy experienced lockdowns as a result of COVID-19. This decline was widespread as eight of the nine census divisions saw a decrease,” said Will Doerner, Ph.D., Supervisory Economist in FHFA’s Division of Research and Statistics. “The 12-month change in house prices remains at historically high rates, but the rate of growth continues to moderate across all census divisions.”

The actual FHFA house price index number for July was 395.2. The index level at the end of September 2021 was 353.6. So, if we were to reset the new conforming loan limit for 2023 today, it would come out to $723,341.

This means if the FHFA House Price index declines another 1.1% between August and September, those originators who are funding loans up to $715k in anticipation of the new 2023 limits might have a problem on their hands.

The rise in mortgage rates has more homebuyers backing out of deals. This is most prevalent in some of the hottest markets in the Sun Belt and Florida.

“Some homebuyers are finding that by the time they go under contract and lock in their mortgage rates, rates could be much higher than they were when they toured the home and/or got pre-approved. That can kill the deal because the buyer is no longer financially comfortable with the purchase,” said Sam Chute, a Redfin real estate agent who works with sellers in Miami. “I advise sellers to price their homes competitively based on the current market because deals are falling through and buyers are no longer willing to pay pie-in-the-sky prices.”

Durable Goods orders fell 0.2% MOM in August according to the Census Bureau. July’s numbers were revised downwards. Ex-transportation they rose, and core capital goods orders (a proxy for business capital investment) increased as well.

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Vital Statistics:

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

The upcoming week will will have some housing data with home prices (FHFA / Case-Shiller) and new home sales. We will also get durable goods orders and the final revision for second quarter GDP. Personal Incomes / Outlays will be on Friday. The jobs report will be next week.

There will be a lot of Fed-speak as well.

Economic conditions deteriorated in August, according to the Chicago Fed’s National Activity Index. Production and income data pulled down the index, while employment and consumption helped.

With the potential for a housing downturn (at least with respect to prices) the inevitable comparisons to 2008 are being trotted out. I have said this before, but 2008 was one of those twice-in-a-century moments (a residential real estate bubble) and the facts on the ground today are much different.

The biggest difference between 2008 and today? The vast majority of mortgages are guaranteed by the government. Subprime doesn’t exist. Aside from non-QM (which resembles Alt-A not subprime) every MBS is money good. So we won’t see a banking crisis, and we won’t see forced selling of securities.

Home prices might decline in some overheated markets. But many of those markets saw 30%+ home price appreciation for a couple years in a row. So a 5%- 10% haircut in Phoenix isn’t unreasonable.

The bottom line is that any decline in home prices won’t trigger another collapse because banks don’t have much credit exposure to residential real estate lending. Any exposure will be counterparty risk (i.e. those who had warehouse lines with someone like FGMC).

Bottom line, fears about another 2008 are completely overblown.

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Vital Statistics:

Stocks are lower as people adjust to the new reality of higher rates. Bonds and MBS are down.

Goldman has cut their target for the year-end S&P 500 from 4,300 to 3,600. Commodity prices are beginning to reflect the lower-growth forecast, with oil dropping below $80 a barrel. A stronger dollar is part of the explanation too, but this is a global growth story.

S&P Global’s flash PMI registered an improvement in September, however we are still in a weak environment. New orders improved and while pricing pressures were still present, the increase in prices was the lowest since January 2021. This gives us at least some evidence that the Fed’s rate hikes are gaining some traction.

“US businesses are reporting a third consecutive monthly fall in output during September, rounding off the weakest quarter for the economy since the global financial crisis if the pandemic lockdowns of early-2020 are excluded. However, while output declined in both manufacturing and services during September, in both cases the rate of contraction moderated compared to August, notably in services, with orders books returning to modest growth,
allaying some concerns about the depth of the current downturn.

There was also better news on inflation, with supplier shortages easing to the lowest since October 2020, helping take some of the pressure off raw material prices. These improved supply chains, accompanied by the marked softening of demand since earlier in the year, helped cool overall the rate of inflation of both firms’ costs and average selling prices for goods and services to the lowest since early-2021. Inflation pressures nevertheless remain elevated by historical standards and, with business activity in decline, the surveys continue to paint a broad picture of an economy struggling in a stagflationary environment.”

Home flipping volume decreased in the second quarter, according to ATTOM. A total of 115k homes were flip transactions, or about 8.2%. This is a decline from the first quarter, but is still an increase from the second quarter of 2021.

“The second quarter was another strong showing for fix-and-flip investors. The total number of properties flipped was the second-highest total we’ve recorded in the past 22 years, and the median sales price of a flipped property – $328,000 – was the highest ever,” said Rick Sharga, executive vice president of market intelligence for ATTOM. “The big question is whether the fix-and-flip market will begin to lose steam as overall home sales have declined dramatically over the past few months, and the cost of financing has virtually doubled over the past year.”

You can look at the iBuying experience of Zillow and Opendoor to see it can be hard to make money in this business even in the best of markets, let alone when rates are higher and the number of transactions are falling.

Despite recessionary fears, mortgage delinquencies remain near record lows, according to Black Knight. The national delinquency rate fell to 2.79%, which was just a touch above the May 2022 record low. Foreclosure starts did tick up 15% in August, but we are well below pre-pandemic levels.

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Vital Statistics:

Stocks are flat after the Fed hiked rates yesterday. Bonds and MBS are down.

As expected, the Fed hiked interest rates by 75 basis points. The decision was not the focus however; the dot plot was the main attraction. The September versus June plots are below:

The median consensus in June was for the Fed Funds rate to end the year in a range of 3.25% – 3.5% and to end 2023 in a range of 3.5% – 3.75%. This was bumped up considerably yesterday. The voting members now see an end-of-year Fed Funds rate of 4.25%- 4.5% and a 2023 ending range of 4.75% – 5%.

The economic projections were tweaked as well – with 2022 GDP revised materially lower from 1.7% to 0.2%. Since GDP was negative in Q1 and Q2 that forecast seems optimistic. The unemployment forecast was revised upward as well, to 3.8% for 2022 and 4.4% for 2022 and 2023. They see inflation coming in at 5.4% this year and gradually getting back to their 2% target by 2025.

During the press conference, Jerome Powell stressed the Fed’s commitment to taming inflation and its willingness to support a period of below-trend growth. The Blue Check Marks squawked on Twitter about the Fed decision, and we can expect more of that as the economy slows and they fret about the political ramifications.

I don’t see how we get to positive 0.2% GDP growth this year given that Q1 and Q2 were negative, the Atlanta Fed’s GDP Now index is predicting only 0.3% growth for Q3 and we have about 225 basis points in Fed hikes that will begin to impact the economy in Q4. The NBER will probably still find a way to bird box its way into not calling a recession though.

The Fed Funds futures see another 125 basis points in hikes between November and December. The December 2023 Fed Funds futures see rates at the same level, so perhaps we are close to the end of this process.

The yield curve inverted even more after the announcement, with 2s / 10s dropping to negative 55 basis points at one point. This morning, 2s / 10s are at negative 47 basis points.

The economy is looking to weaken, according to the Conference Board’s Index of Leading Economic Indicators. The index fell 0.3% in August after falling 0.5% in July. It has been falling for the last six months.

“The US LEI declined for a sixth consecutive month potentially signaling a recession,” Ataman Ozyildirim, Senior Director, Economics, at The Conference Board. “Among the index’s components, only initial unemployment claims and the yield spread contributed positively over the last six months—and the contribution of the yield spread has narrowed recently.”

“Furthermore, labor market strength is expected to continue moderating in the months ahead. Indeed, the average workweek in manufacturing contracted in four of the last six months—a notable sign, as firms reduce hours before reducing their workforce. Economic activity will continue slowing more broadly throughout the US economy and is likely to contract. A major driver of this slowdown has been the Federal Reserve’s rapid tightening of monetary policy to counter inflationary pressures. The Conference Board projects a recession in the coming quarters.”

The red lines indicate a recessionary signal, and it is flashing red right now.

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Vital Statistics:

Stocks are higher as we await the Fed decision. Bonds and MBS are up.

The Fed decision is slated to come out at 2:00 pm EST. The market consensus is that they will hike the Fed Funds rate by 75 basis points. Since this is a September meeting, we will also get a new dot plot and a fresh set of economic projections. The decision probably won’t be the driver of the market’s reaction – the dot plot will. The focus will be on how long the Fed keeps rates elevated before cutting them. As of now, the Fed Funds futures see the Fed begin to cut rates in mid-2023. If the dot plot shows them keeping rates elevated all through 2023 and into 2024, the market will probably take that negatively.

Mortgage applications rose 3.8% last week as purchases increased 1% and refis rose 10%. This is surprising given the move up in rates, but comparisons versus the holiday-shortened Labor Day week could be the reason. Mortgage rates continue to march higher.

“Treasury yields continued to climb higher last week in anticipation of the Federal Reserve’s September meeting, where it is expected that they will announce – in their efforts to slow inflation – another sizable short-term rate hike,” said Joel Kan, MBA Associate Vice President of Economic and Industry Forecasting. “Mortgage rates followed suit last week, increasing across the board, with the 30-year fixed rate jumping 24 basis points to 6.25 percent – the highest since October 2008. As with the swings in rates and other uncertainties around the housing market and broader economy, mortgage applications increased for the first time in six weeks but remained well below last year’s levels, with purchase applications 30 percent lower and refinance activity down 83 percent. The weekly gain in applications, despite higher rates, underscores the overall volatility right now as well as Labor Day-adjusted results the prior week.”

Another sign that the housing market is cooling: we are seeing rent growth begin to slow. “July marked the third month of slower annual gains in single-family rents,” said Molly Boesel, principal economist at CoreLogic. “However, higher interest rates this year increased monthly mortgage payments for new loans, and potential homebuyers may choose to continue renting rather than buy, helping keep price increases in check.” While rental inflation is slowing, vacancy rates remain extremely low.

Existing home sales slipped 0.4% in August and are down 20% compared to a year ago. The median home price rose 7% to $389,500. “The housing sector is the most sensitive to and experiences the most immediate impacts from the Federal Reserve’s interest rate policy changes,” said NAR Chief Economist Lawrence Yun. “The softness in home sales reflects this year’s escalating mortgage rates. Nonetheless, homeowners are doing well with near nonexistent distressed property sales and home prices still higher than a year ago.”

Housing inventory remains low, with 1.28 million units. This is a 3.2 month supply, which indicates a tight market. “Inventory will remain tight in the coming months and even for the next couple of years,” Yun added. “Some homeowners are unwilling to trade up or trade down after locking in historically-low mortgage rates in recent years, increasing the need for more new-home construction to boost supply.”

Days on market came in at 17, an uptick from July, but down from a year ago. 81% of homes sold within a month. All-cash sales, which are an indicator of investor activity, increased. Price increases were prevalent in Miami, and Memphis, while erstwhile stalwarts like Phoenix, Las Vegas and Austin saw price decreases.

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Vital Statistics:

Stocks are lower as we begin the FOMC meeting. Bonds and MBS are down.

The 10 year bond yield has risen to an 11 year high. The rise over the past two years has been dramatic:

Housing starts unexpectedly increased in August to a seasonally-adjusted annual rate of 1.575 million. This was up 12.2% MOM and flat YOY. Building Permits declined 10% MOM and 14% YOY to 1.517 million. Housing completions fell 5.4% MOM to 1.342 million.

Overall, the decline in building permits supports the view that we are in a housing recession. Note that we are starting to get speculation that the Fed might start reducing rate hikes because housing has historically been a big part of of the economy. “Markets currently price-in an 80% chance of another 75 basis points hike in November, but we think 50bp is much more likely, and the parlous state of the housing market is a key factor in our forecast,” wrote Ian Shepherdson, chief economist at Pantheon Macroeconomics. “The longer and deeper the housing recession becomes, though, the greater the pressure it will exert on the Fed to dial back the pace of tightening.”

That said, housing (owners equivalent rent) is a big input into the inflation numbers, so the Fed would love to see home price appreciation slow. Median asking rents rose 14% YOY in July, according to Redfin. This is a deceleration from June and May. In fact, the monthly increase of 0.6% was the slowest since February.

The problem for renters is that there is still a shortage of housing units and rising rates are pushing would-be buyers into the rental market, which is pushing up rents.

The iBuying business hasn’t worked out as well as hoped. First Zillow got out of the business, and now Opendoor lost money on 42% of its transactions in August. In Los Angeles, it lost money on 55% of its sales and in Phoenix it lost money on 76%

“We provided third quarter guidance in our last earnings to reflect lower-than-normal transaction volume and home-price appreciation, as well as longer than normal hold times for our inventory associated with the most rapid change in residential real estate fundamentals in 40 years,” an Opendoor representative said in a statement. “We have moved quickly and decisively to prioritize inventory health and risk management.”

Given that Phoenix home price appreciation has been around 30%, it boggles the mind how it could lose money on these properties.

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Vital Statistics:

Stocks are lower this morning as we head into Fed week. Bonds and MBS are down.

The FOMC will meet on Monday and Tuesday. The Fed funds futures have a 80% chance for a 75 basis point increase and a 20% chance of 100. The yield curve continues to invert, with 2s / 10s trading at 46 basis points. Note that the Bank of England and the Bank of Japan also meet this week.

The September meeting will also bring a fresh set of economic projections and a new dot plot. Investors will be looking keenly at the rate predictions for 2023 and 2024. Earlier this summer, investors were looking for a Fed “pivot” from hawkishness to dovishness in 2023. At Jackson Hole, Jerome Powell threw cold water on that idea, stressing that the policy mistake of easing too early was a driver of inflation in the 1970s. The forecasts and dot plot will interesting to see if the Fed truly believes it.

Below is a chart of the Fed Funds rate and the CPI during the 1970s. FWIW, it seems like the Fed Funds rate and inflation correlate pretty closely. I can’t see where the policy mistake lies. Maybe the rate cuts in early 1975, but inflation was decreasing at the time, and didn’t really start picking up until 2 years later.

Rising rates and home prices have conspired to depress homebuilding. You can see this effect in lumber prices, which are down considerably over the past few months. It seems like everyone expects home prices to fall over the near term, although recent prints are still in the high teens YOY. Speaking of homebuilding, we will get housing starts tomorrow.

Homebuilder confidence fell for the ninth straight month, according to the NAHB Housing Market Index.

“Buyer traffic is weak in many markets as more consumers remain on the sidelines due to high mortgage rates and home prices that are putting a new home purchase out of financial reach for many households,” said NAHB Chairman Jerry Konter, a home builder and developer from Savannah, Ga. “In another indicator of a weakening market, 24% of builders reported reducing home prices, up from 19% last month.”

“Builder sentiment has declined every month in 2022, and the housing recession shows no signs of abating as builders continue to grapple with elevated construction costs and an aggressive monetary policy from the Federal Reserve that helped pushed mortgage rates above 6% last week, the highest level since 2008,” said NAHB Chief Economist Robert Dietz. “In this soft market, more than half of the builders in our survey reported using incentives to bolster sales, including mortgage rate buydowns, free amenities and price reductions.”

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