All Things in Moderation

Vital Statistics:

Stocks are higher this morning after inflation numbers came in better than expected. Bonds and MBS are down small. Given that this is the Friday before a long Christmas weekend, trading volumes should be razor-thin.

Personal Income rose 0.4% MOM in November, an increase of 0.1% compared to October and September. This was bang in line with Street expectations. Consumption rose 0.2%, which was shy of expectations.

Importantly, the PCE Price index (the Fed’s preferred measure of inflation) fell 0.1% in November and was up 2.6% on a year-over-year basis. Both numbers were below expectations. The core rate, which excludes food and energy rose 0.1% month-over-month and 3.2% year-over-year. Both core numbers were below expectations.

You can see in the chart below, we are about 2/3 of the way there in getting core inflation back to the Fed’s goal:

The bond market didn’t react to the numbers much but given how much rates have fallen already that probably shouldn’t be a surprise.

New home sales fell 12.2% MOM to a seasonally-adjusted annual rate of 590,000. This was up on a year-over-year basis however. The median new home price fell about 6% to $434,700.

The S&P SPDR Homebuilder ETF has been on a tear since the 10 year peaked in late October.

Durable good orders rose 5.4% month-over-month, which was better-than-expected. Core capital goods (a proxy for business capital investment) rose 0.8%, which was again better than than expected.

Title Company First American Financial suffered a cyberattack and shut down its website, imperiling mortgage transactions in progress. “First American has experienced a cybersecurity incident. In response, we have taken certain systems offline and are working to return to normal business operations as soon as possible.”

Freddie Mac is out with their outlook for 2024. They see economic growth cooling from 2023’s pace, which should cause unemployment to tick up. Mortgage rates are expected to be in the 6% – 7% range during the year, while home prices are expected to rise 6.3%. Despite inflation remaining above the Fed’s 2% target, they think the Fed will start cutting rates.

For-sale inventory is expected to remain depressed, and the company sees a modest uptick in dollar volume for purchase originations while refinancing activity will remain moribund.

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Vital Statistics:

Stocks are higher this morning as global sovereign yields continue to fall. Bonds and MBS are up.

Global sovereign yields are lower after good inflation data in the UK. The UK Gilt is down 12 basis points, while German Bunds are trading back below 2%. The end-of-year bond rally globally has been impressive.

Mortgage Applications fell 1.5% last week as purchases fell 1% and refis fell 2%. On an annual basis, purchase activity was down 18% while refi activity was up 18%. “With the positive news about the drop in inflation, and the FOMC projections proclaiming a pivot towards rate cuts, the 30-year fixed mortgage rate reached its lowest level since June 2023, declining to 6.83 percent,” said Mike Fratantoni, MBA’s SVP and Chief Economist. “At least as of last week, borrowers’ response to this rate move was rather tepid. VA refinance applications jumped 18 percent for the week, but otherwise, both refinance and purchase applications showed small declines.”

Refinance activity rose to almost 40% of total applications, while the average mortgage rate fell from 7.07% to 6.83%.

Consumer confidence increased in December, according to the Conference Board. “December’s increase in consumer confidence reflected more positive ratings of current business conditions and job availability, as well as less pessimistic views of business, labor market, and personal income prospects over the next six months,” said Dana Peterson, Chief Economist at The Conference Board. “While December’s renewed optimism was seen across all ages and household income levels, the gains were largest among householders aged 35-54 and households with income levels of $125,000 and above. December’s write-in responses revealed the top issue affecting consumers remains rising prices in general, while politics, interest rates, and global conflicts all saw downticks as top concerns. Consumers’ Perceived Likelihood of a US Recession over the Next 12 Months abated in December to the lowest level seen this year—though two-thirds still perceive a downturn is possible in 2024.”

These consumer confidence indices are highly influenced by gasoline prices, which have been falling. There also remains a sizeable gap between expectations and present conditions (i.e. now). In other words, people’s economic situation at the moment is better than they think the future will be.

Existing Home sales rose 0.8% in November, ending a 5 month decline. Sales rose to a seasonally-adjusted annual pace of 3.82 million units, which is still 7.3% lower than a year ago. This number reflects the fact that mortgage rates spiked in September and October.

“The latest weakness in existing home sales still reflects the buyer bidding process in most of October when mortgage rates were at a two-decade high before the actual closings in November,” said NAR Chief Economist Lawrence Yun. “A marked turn can be expected as mortgage rates have plunged in recent weeks.”

Inventory remains light, with only 3.5 month’s worth at the current pace. This is a function of high mortgage rates and the lock-in effect. As rates move lower, this issue should become less of a concern. The median home price rose 4% YOY to $387.600. The first time homebuyer share rose to 31% from 28% a month before.

US economic bellwether FedEx is down 10% this morning after posting weak earnings and guidance. The company said it expects declining revenues this year after guiding for a flat top line. “In the remainder of [fiscal] 2024, we expect revenue will continue to be pressured by volatile macroeconomic conditions, negatively affecting customer demand for our services across our transportation companies,” FedEx said in a filing. Its fiscal year ends May 31.

This doesn’t bode well for consumption or investment going forward.

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Vital Statistics:

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

Housing starts rose 15% MOM and 9% YOY to a seasonally-adjusted annual rate of 1.56 million units. Building Permits rose 2.5% MOM to 1.46 million. This was below last year.

Multi-unit (5+) under construction remains near record levels. This should help put downward pressure on rents and ultimately inflation. I am not sure where these multi-family units are being built, but there will be a deluge of units hitting the markets.

Mortgage Capital Trading (MCT) announced that lock volume fell 10.7% in November, as MBS rallied early in the month. Volume tailed off around the end of the month due to the Thanksgiving Day holiday.  Andrew Rhodes, Senior Director and Head of Trading at MCT, commented on the current scenario, saying, “While we’ve seen a decrease in mortgage rates from the highs which would alleviate the seasonal dip, we are still struggling with low supply and see that as a continued trend through the beginning of 2024.”

Morgan Stanley has put out its 10 surprises for 2024. Here are the highlights (I omitted the ones which are about overseas markets)

Surprise 1: The elusive US hard landing arrives in style. Looking forward to 2024, the potential major surprise could be the arrival of the elusive hard landing, catching most investors off guard just after they concluded that “this time was indeed different.” While it took the better part of the previous year for the consensus to fully embrace the soft landing narrative, the reversal to a hard landing may happen more swiftly, leading investors to regret being misled once again

Surprise 2: Fed cuts 8 times, amid soft landing: Looking forward to 2024, the potential major surprise could be the arrival of the elusive hard landing, catching most investors off guard just after they concluded that “this time was indeed different.” While it took the better part of the previous year for the consensus to fully embrace the soft landing narrative, the reversal to a hard landing may happen more swiftly, leading investors to regret being misled once again

Surprise 3: QT ends before the first cut: Looking forward to 2024, the potential major surprise could be the arrival of the elusive hard landing, catching most investors off guard just after they concluded that “this time was indeed different.” While it took the better part of the previous year for the consensus to fully embrace the soft landing narrative, the reversal to a hard landing may happen more swiftly, leading investors to regret being misled once again

Surprise 10: Breakevens revert to 2019 levels: Looking forward to 2024, the potential major surprise could be the arrival of the elusive hard landing, catching most investors off guard just after they concluded that “this time was indeed different.” While it took the better part of the previous year for the consensus to fully embrace the soft landing narrative, the reversal to a hard landing may happen more swiftly, leading investors to regret being misled once again.

Student loan payments resumed in October, and only 60% of them were made, according to the government. That is a pretty hefty percentage of delinquencies, and suggests that some of the spending that has been going on is unsustainable.

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Vital Statistics:

We have green on the screen as investors rejoice over the FOMC statement. Bonds and MBS are up.

As expected, the Fed maintained interest rates at current levels, and signaled the tightening cycle is finished. Bonds and MBS are up, with the 10 year bond yield trading below 4%.

As expected, the Fed maintained the Fed Funds rate at current levels, and pointed out that the economy is slowing:

Recent indicators suggest that growth of economic activity has slowed from its strong pace in the third quarter. Job gains have moderated since earlier in the year but remain strong, and the unemployment rate has remained low. Inflation has eased over the past year but remains elevated.

The U.S. banking system is sound and resilient. Tighter financial and credit conditions for households and businesses are likely to weigh on economic activity, hiring, and inflation. The extent of these effects remains uncertain. The Committee remains highly attentive to inflation risks

The dot plot showed the Fed expects the 2024 Fed Funds rate to be in a range of 4.5% – 4.75%, which is a sizeable drop from the September forecast of 5% – 5.25%. Note that 2025 and 2026 have been revised lower as well.

2024 GDP forecasts were trimmed from 1.5% to 1.4%, while the unemployment rate is expected to remain at 4.1%. PCE inflation estimates were lowered a hair to 2.4% on both the headline and the core rate.

The reaction in the bond market was dramatic, with the 10 year bond yield falling 15 basis points on the day and the 2 year falling 25 bps. The stock market also took off as investors bet on a soft landing.

The press conference more or less re-iterated the info from the statement, however Powell did signal that this tightening cycle is over:

While we believe that our policy rate is likely at or near its peak for this tightening cycle, the economy has surprised forecasters in many ways since the pandemic, and ongoing progress toward our 2 percent inflation objective is not assured. We are prepared to tighten policy further if appropriate. We are committed to achieving a stance of monetary policy that is sufficiently restrictive to bring inflation sustainably down to 2 percent over time, and to keeping policy restrictive until we are confident that inflation is on a path to that objective.

When asked about why the Fed is stopping before inflation hits 2%, Powell said that waiting for inflation to hit the target before easing would mean overshooting.

The Fed Funds futures became even more dovish, with the central tendency predicting six rate cuts in 2024. Check out the difference in probabilities between yesterday and a month ago. Amazing.

This statement should be good news for the mortgage space overall, as it will be supportive for MBS spreads. Volatility in the bond market should dissipate as uncertainty over Fed policy ends. The big agency mortgage REITs spiked 5% on the Fed announcement. Mortgage originators also rose, with Rocket rising 9.5% and United Wholesale rising 7.5%. Interestingly, Mr Cooper (which is a big MSR play) only rose 2.4%.

Bottom line: 2024 might be a bit better for the mortgage space than people thought a couple months ago. I suspect the MBA will be taking up estimates for 2024 soon.

In other economic news, retail sales rose 0.3% month-over-month topping expectations, while initial jobless claims fell to 202k. Cue the chorus calling for a Goldilocks-esque soft landing.

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Vital Statistics:

Stocks are lower this morning after the Consumer Price Index report. Bonds and MBS are down.

The Consumer Price Index came in slightly above expectations, rising 0.1% on a month-over-month basis. The Street was looking for a 0% increase. The core rate, which excludes food and energy, rose 0.3%, in line with expectations. Falling energy prices helped offset increases in shelter and the index for used cars. The majority of the increase (70%) in the core rate was driven by shelter.

The report probably doesn’t move the needle for the FOMC meeting, which starts today. The expectation is that the Fed will maintain rates at current levels, however a lot of attention will be focused on the dot plot and economic projections within the report.

The Fed Funds futures are now roughly a 60 / 40 bet against a rate cut in March.

The CFPB is suing Wells Fargo and other banks over pricing concessions. The practice of concessions to save a deal has been going on forever in mortgage banking, but the regulators would like to end the practice entirely. “As long as pricing exceptions exist, pricing disparities exist,” said Ken Perry, founder of a Washington-based compliance firm for the mortgage industry. “They’re the easiest way to discriminate against a client.”

Small Business Optimism decreased 0.1% in November, according to the NFIB. Like many non-governmental economic reports, the NFIB Small Business Optimism index doesn’t comport with the official narrative of 5%+ growth in Q3. Optimism remained well below the long-term all year, while a net 17% of firms reported sales declines. Inventory boost might have boosted Q3 numbers, but the lack of follow-through in sales makes it look like Q4 might be weak. The number of firms raising prices fell again to a net positive 25%, which is below the peak of 60% earlier this year.

The Senate has introduced legislation which would ban hedge funds from owning single-family rentals. The report is concerned that 577,000 homes in the US are owned by institutional investors. Of course there are 144 million homes in the US, so as a percent, this isn’t much. It certainly isn’t enough to affect the market.

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Vital Statistics:

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

Companies announced 45,510 job cuts in November, according to the Challenger, Gray and Christmas Job Cut Report. This is a 24% increase from October, but is down 41% from a year ago. Year-to-date, job cut announcements are up 11% compared to a year ago.

“The job market is loosening, and employers are not as quick to hire. The labor market appears to be stabilizing with a more normal churn, though we expect to continue to see layoffs going into the New Year,” said Andrew Challenger, labor expert and Senior Vice President of Challenger, Gray & Christmas, Inc.

Tech is the biggest sector cutting jobs, followed by retailers and healthcare. Year-to-date, hiring plans are the lowest since 2015, and seasonal hiring is the lowest in 10 years.

This year has been been the least affordable for housing on record, but it looks like 2024 will be better, according to Redfin. The typical homebuyer earning the median income would have to spend 41% of their income on housing costs to buy the median home. Blame a combination of rising home prices in 2021 and 2022 along with soaring mortgage rates.

“A perfect storm of inflation, high prices, soaring mortgage rates and low housing supply caused 2023 to go down as the least affordable year for housing in recent history,” said Redfin Senior Economist Elijah de la Campa. “The good news is that affordability is already improving heading into the new year. Mortgage rates are coming down, more people are listing homes for sale, and there are still plenty of sidelined buyers ready to take a bite of the fresh inventory. We expect these conditions to continue to improve in 2024.”

The share of median income varies widely by MSA, with California cities like San Francisco requiring 85%, and Midwest cities like Detroit requiring only 18%.

Initial Jobless claims ticked up 1,000 to 220k. On an unadjusted basis they rose by 94k to 294k. It appears that the job market is really a tale of two markets: white collar jobs, where hiring is sluggish and skilled labor where there is still a shortage of workers.

Blackstone Mortgage Trust (BXMT) is a mortgage REIT that focuses on commercial mortgage backed securities and can be seen as kind of a proxy for the problems in commercial real estate. One big short seller is targeting the stock as credit losses are looking to be picking up. As this stock goes, so goes the pain in the banking sector and possible rate cuts.

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Vital Statistics:

Stocks are lower after Moody’s cut China’s debt outlook. Bonds and MBS are up.

Job openings fell to 8.7 million in October, according to the JOLTS report. This was well below Street expectations of 9.4 million. The job openings rate fell to 5.3%, which is down 0.3% MOM and 1.1% YOY. The quits rate was flat at 2.3%.

Job openings fell in health care / social assistance and finance.

Despite the drop in job openings, the ISM Services index expanded at a faster rate in November. “The services sector had a slight uptick in growth in November, attributed to the increase in business activity and slight employment growth. Respondents’ comments vary by both company and industry. There is continuing concern about inflation, interest rates and geopolitical events. Rising labor costs and labor constraints remain employment-related challenges.”

Tappable equity has returned to close to its 2022 peak, according to data from Black Knight. “Despite the resurgence in tappable equity among U.S. mortgage holders, elevated interest rates are making homeowners reluctant to extract that wealth,” Walden said. “Indeed, in recent quarters, equity withdrawal rates have been running at less than half their long-run averages. Mortgage holders extracted a mere 0.41% of tappable equity available at the beginning of Q3. That’s some 55% below the average withdrawal rate seen in the 12 years leading up to the Fed’s most recent tightening cycle. That’s equivalent to $54 billion – $250B over the last 18 months – in ‘missing’ withdrawals that might have otherwise stimulated the broader economy.”

The large amount of equity in homes is also contributing to the low delinquency rate, as troubled borrowers often have 20% equity in their homes and can simply sell the property and move on.

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Vital statistics:

Stocks are lower this morning as we await two speeches from Jerome Powell. Bonds and MBS are down.

Nick Timaros of the WSJ (one of the journalists most plugged in to what the Fed is thinking) says that the hiking cycle is probably over, however the Fed is reluctant to say so. They are even more reluctant to discuss any sort of rate cuts. The fear is that declaring victory too early while the economy is growing and the labor market is tight risks a credibility issue if inflation resurges.

That said, Fed Governor Waller discussed how the Fed could start cutting rates yesterday, saying that as inflation falls, the real rate of interest increases even if the Fed Funds rate stays the same. You can see that in the chart below, which subtracts the annual CPI from the Fed Funds rate.

Right now, the real Fed Funds rate is the highest it has been since 2007, which means monetary policy is pretty restrictive. In March of 2022, the real rate of interest was -8.3%, which is a record. Prior negative rate lows were -4.8% in 1980 and -5% in 1975.

The December Fed Funds futures are pricing in a 0% chance for a rate hike. The March Fed Funds futures are now close to a 50-50 chance for a 25 basis point rate cut.

The US manufacturing sector contracted again in November, according to the ISM Manufacturing Index. “The U.S. manufacturing sector continued to contract at the same rate in November as compared to October, again posting a reading of 46.7 percent. Companies are still managing outputs appropriately as order softness continues.”

“Demand remains soft, and production execution is slightly down compared to October as panelists’ companies continue to manage outputs, material inputs and — more aggressively — labor costs. Suppliers continue to have capacity. Sixty-five percent of manufacturing gross domestic product (GDP) contracted in November, down from 75 percent in October. More importantly, the share of sector GDP registering a composite PMI^® calculation at or below 45 percent — a good barometer of overall manufacturing weakness — was 54 percent in November, compared to 35 percent in October and 6 percent in September. Three of the top six industries by contribution to manufacturing GDP were at or below 45 percent, same as the previous month,” says Fiore.

One of the respondents said the economy is “slowing dramatically.”

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