All Things in Moderation

Vital Statistics:

Stocks are marginally higher as we await Jerome Powell’s speech at the Brookings Institution. Bonds and MBS are down.

Fed Chairman Jerome Powell will speak at the Brookings Institution at 1:30 PM. I don’t see any prepared remarks on the Fed’s website. He will address the labor market, inflation and monetary policy. This will be the last week of Fed-speak ahead of the December FOMC meeting December 13-14.

The consensus seems to be that he will talk about slow and steady increases in rates and does not want to spook the markets one way or the other.

St. Louis Fed President James Bullard published an article that suggested the Fed Funds rate needs to rise to at least 4.9% in order to begin to impact inflation. “Results based on the latest trimmed mean PCE inflation rate, which is for September, suggested that it would take a policy rate of at least 4.9% to exert downward pressure on inflation. Thus, even under generous assumptions, the policy rate has not yet reached a level that could be considered sufficiently restrictive, according to these calculations.”

Third quarter GDP rose 2.9% in the third quarter, an upward revision from the initial 2.6% estimate. The PCE inflation indicator was revised up 0.1% to 4.3%. Exports, consumption and government spending were revised upward. Residential construction continues to remain a drag.

The economy added 127,000 jobs in November, according to estimates from ADP. The Street is looking for 200,000 jobs in Friday’s Employment Situation report. “Turning points can be hard to capture in the labor market, but our data suggest that Federal Reserve tightening is having an impact on job creation and pay gains,” said Nela Richardson, chief economist, ADP. “In addition, companies are no longer in hyper-replacement mode. Fewer people are quitting and the post-pandemic recovery is stabilizing.”

Leisure and hospitality added 224,000 jobs while manufacturing lose 100,000. The median pay change for job-stayers was 7.6%, while the median pay change for job-changers was 15.1%.

Job openings edged down by 350k to 10.3 million, according to the JOLTS jobs report. The quits rate declined to 2.6% from 2.7%. This means that more people are staying with their employers, which will act to reduce wage inflation.

Pending home sales fell 4.6% in October, according to the National Association of Realtors. “October was a difficult month for home buyers as they faced 20-year-high mortgage rates,” said NAR Chief Economist Lawrence Yun. “The West region, in particular, suffered from the combination of high interest rates and expensive home prices. Only the Midwest squeaked out a gain. The upcoming months should see a return of buyers, as mortgage rates appear to have already peaked and have been coming down since mid-November.”

Mortgage Applications fell 0.8% last week as purchases increased 4% and refis fell 13%. “Mortgage rates declined again last week, following bond yields lower,” said Joel Kan, MBA Vice President and Deputy Chief Economist. “The economy here and abroad is weakening, which should lead to slower inflation and allow the Fed to slow the pace of rate hikes. Purchase activity increased slightly after adjusting for the Thanksgiving holiday, but the decline in rates was still not enough to bring back refinance activity.” The MBA refinance index is at 22 year lows.

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Vital Statistics:

Stocks are flattish after Chinese stocks rally overnight. Bonds and MBS are down.

Home prices rose 0.1% QOQ and 12.4% YOY, according to the FHFA House Price Index.

This means that the new conforming loan limit for 2023 will be $726,200. It looks like FHFA released the new limits a day early. “House prices were flat for the third quarter but continued to remain above levels from a year ago.” said William Doerner, Ph.D., Supervisory Economist in FHFA’s Division of Research and Statistics. “The rate of U.S. house price growth has substantially decelerated. This deceleration is widespread with about one-third of all states and metropolitan statistical areas registering annual growth below 10 percent.”

The growth in the West is slowing, while the Southeast (especially Florida) is accelerating.

Separately, the Case Shiller Home price Index showed prices declined overall about 1.5% in September.

Redfin noted that home price growth is cooling the fastest in the Pandemic Boomtowns of Austin, Phoenix and Boise. “The forces slowing the housing market, such as high mortgage rates, are having an outsized impact on places like Austin and Boise that saw home prices skyrocket over the last few years,” said Redfin Senior Economist Sheharyar Bokhari. “Home prices can only rise by double digits for so long before the growth becomes unsustainable. High rates and stumbling tech stocks are making it unsustainable quite quickly, especially in destinations popular with tech workers. Plus, many of the out-of-towners with big budgets who wanted to move into those places already have.”

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Vital Statistics:

Stocks are lower this morning on Chinese protests over COVID lockdowns. Bonds and MBS are up.

We have a big week of data coming up with house prices on Tuesday, GDP on Wednesday, Personal Incomes and Outlays on Thursday and the jobs report on Friday.

The FHFA House Price Index will be released on Tuesday. This will be the final number to establish the conforming loan limits for 2023. As of now, the consensus seems to be that the new limit will be 715k or so.

The PCE Price Index (the Fed’s preferred inflation index) will be released on Wednesday. We will also get one more CPI print before the Fed announces its decision for December.

Single family rents rose 10.2% YOY, according to CoreLogic. “Annual single-family rent growth decelerated for the fifth consecutive month in September but remained at more than twice the pre-pandemic growth rate,” said Molly Boesel, principal economist at CoreLogic. “High mortgage interest rates may be causing potential homebuyers to hit pause and remain renters, keeping pressure on rent prices.  However, the monthly rent change was negative in September, resuming the typical seasonal pattern for the first time since 2019, which could signal the beginning of rent price growth normalization.”

Interestingly, the lag between home price appreciation and rents is about 21 months, which means that we are looking at home price appreciation from early 2021. In theory, we should see an acceleration of rental inflation as the home price growth of 2021 and 2022 is still not reflected in the numbers yet.

The big banks are largely forecasting a recession for next year and a Fed Funds rate of 5%+

Most strategists think the S&P 500 will end 2023 lower than where it is today.

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Vital Statistics:

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.

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Vital Statistics:

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.

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Vital Statistics:

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.

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Vital Statistics:

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.

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Vital Statistics:

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.”

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Vital Statistics:

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.”

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Vital Statistics:

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.

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