All Things in Moderation

Markets are higher this morning after yesterday’s bloodbath. There is no economic data this morning. Bonds and MBS are up small.

 

Mortgage rates are up 30 basis points this week so far. We should be best-exing into 4% coupons soon if not already. Will the higher rates crush the purchase market? Well, the National Association of Realtors reported May Existing home sales rose 4.2% to a seasonally-adjusted 5.18% annual rate. The median home price rocketed 15.4% year-over-year. Days on market fell to 41 days from 46 days in April. During the month of May, the 10 year went from 1.67% to 2.13% and the 30 year mortgage went from 3.43% to 4.10%. So, at least on the purchase front, so far, so good. 

 

The sell-off in bonds has been dramatic. Is it overdone? IMO, not really. Two things in Bernake’s press conference jumped out at me. First, was that the Fed expects the labor market to improve slowly and for inflation to remain moderated. And if the economy acts as expected, they will start tapering QE by the end of the year and fully exit by mid 2014. In other words, the default path is to exit QE, and it will take exceptionally weak economic news to change that. I think going into the FOMC meeting, the market was discounting the possibility that the default path was to continue QE and it would take strong economic data to change that. That possibility has now been taken off the table.

 

Second, when asked about his concern over the recent increase in interest rates, Bernake said that their economic forecasts were done in the past few days, so they take into account the recent spike in rates. He went on to characterize the increase in rates as “increasing for the right reasons” – i.e. economic strength and the markets getting ahead of the Fed. 

 

The next question is “how high can rates go?” Well, if you look at historical numbers, a lot higher. Below is a chart of the 10 year yield less the Fed Funds Target Rate since we went to ZIRP. The yield curve had been a lot steeper in the past few years. 

 

Markets are flattish as we await the FOMC decision, which should be out around 2:00 pm EST. Bonds and MBS are flat

 

Mortgage applications fell 3.3% last week, which is surprising since rates fell 9 bps. The purchase index fell 3% while the refi index fell 3.4%.

 

The CoreLogic Market Pulse has lots of good things in it this month. One article notes that prices are adjusting more quickly in this cycle as opposed to historical cycles. They also expect gains to moderate in the red-hot West Coast markets as previously underwater homeowners put their properties on the market. They also are hearing that professional investors believe some of these market to be overheated and are looking to exit. This could be good for originators as the cash buyers become a smaller percentage of buyers.

 

Wells Fargo recently held a conference call on the housing market. They see the Fed starting to move towards tapering QE towards the end of the year, but believe it will be gradual. They make an interesting point regarding the low household formation numbers – that they remain depressed because the jobs that are being created are not quality jobs. They are low paying / temporary jobs that will not really give a boost to housing demand. 

And finally, Treasury Secretary Jack Lew has re-done his signature from OOoooooooOO to something a bit more legible. His new John Hancock will be gracing your dollar bills shortly.

Markets are generally higher as we begin the two day FOMC meeting. Bonds and MBS are down small.

 

Housing starts came in at 914k, lower than the 950k expectation. May starts were revised down to 856k. Multi-fam drove the decrease, and really accounts for the volatility of the index lately. SFR construction has been steadily growing from 520k to 620k over the past year. Wet weather in the Midwest may have dampened the number a bit. Building permits came in at 975k, as expected. Overall, it shows the housing market is continuing to recover, but we are still at very depressed levels. These sort of numbers are often seen at the absolute bottom of recessions. It may be too early to jump to conclusions, but perhaps the hike in interest rates over the past six weeks is starting to bite. 

 

The housing starts number stands in contrast to the National Association of Homebuilders sentiment survey which jumped 8 points to a reading of 52, the first “net positive” number since 2006. 

 

The consumer price index came in at +.1% on the headline number, and + .2% ex food and energy. This number is still too low to please the Fed as they would like to see annual inflation in the 2% to 2.5% range. 

 

On Charlie Rose, Obama said that “Ben Bernake has stayed on as Federal Reserve Chairman longer than he wanted,” giving the clearest signal that the Bernank is going to leave when his term expires early next year. The two names mentioned have been ex Treasury Secretary Larry Summers and Vice Chair Janet Yellen. Yellen is the overwhelming favorite, and she is a bigger dove than Bernake. Something to keep in mind when you start thinking about QE tapering. That said, the current voting members on the Fed are very dovish on balance. Oh, and one other thing – she doesn’t believe the Fed’s interest rate policy has a role in bubble prevention. She would rather rely on supervision and regulation as the main line of defense against bubbles. Of course, with the stock market bubble and the real estate bubble so fresh in our minds, she will likely preside over the bursting of the Treasury bond bubble.

Markets are higher this morning after a slew of economic data that was generally negative. Bonds and MBS are up.

 

In economic data this morning, the producer price index showed inflation remains in check at the wholesale level. Industrial Production and Capacity Utilization were lower than expected. Finally, the University of Michigan Consumer Confidence number fell. Yesterday, the Bloomberg Consumer Comfort Index fell, and the driver was people’s perception of their own financial situation. Perhaps the increase in interest rates is beginning to be felt.

 

Next week will be the FOMC meeting. Market participants will undoubtedly be focusing on the debate over tapering QE. Are they comfortable with the recent spike in long-term rates? 

 

Mortgage investors are starting to rotate to non-agency paper as rates rise. It is basically a bet that the housing market continues to improve. At the margin, it should put pressure on agency paper, which will increase borrowing rates.

 

We have already seen some of the effects of mortgage REIT deleveraging in the MBS space. The spread between Ginnie I and Ginnie II securities has narrowed, as well as the spread between Fannie Mae and Freddie Mac TBAs. Fannie Mae and Ginnie I TBAs generally trade at a premium to Freddie Mac TBAs and Ginnie II TBAs respectively. Why is this happening? Mortgage REIT deleveraging. The Ginnie Is and Fannie Mae TBAs are more liquid than the IIs and Freddie Macs. And when you are deleveraging, you sell what you can, not necessarily what you want to. Punch line?  Ginnie loans and Fannie loans are getting more expensive relative to Freddie loans. 

 

The MR will be spotty next week as I will be on the Left Coast.

Markets are up on the back of a good retail sales number, in spite of an absolute shellacking (down 6.4%) in the Nikkei 225 index overnight. Initial Jobless Claims came in at 334k, a little better than expectations. The Import Price Index fell, which is bond bullish. Bonds and MBS are up small.

 

Advance Retail Sales were up .6% in the month of May, which was better than expected. Less autos and gasoline, they were up .3%, in line with expectations. April was revised downward from .5% to .2%.  Building materials are increasing at a 10% clip, which bodes well for new construction. 

 

It is probably too early for the back up in rates that started in May to start showing up in economic data, but is presence (or absence) will almost influence the Fed’s decision making on ending QE. Don’t forget The Bernank is done at the end of the year. The odds-on favorite is Janet Yellen to replace him and she is to the dovish side of Bernake. While I think it is a long shot, beware of a snap-back rally in bonds. That is when the margin clerk finishes his business.

 

CoreLogic reported that home equity increased 9% in the first quarter to reach $4.2 trillion. Negative equity fell 8% to $580 billion and the number of negative equity properties fell to 9.7 million from 10.5 million. CoreLogic estimates that if home prices increase another 5%, 1.6 million homes would regain positive equity.   This should really help drive purchase business as homeowners who have been stuck finally are able to move. Combined with a recovering job market to lure in the first time homebuyer and still generally good affordability, maybe the purchase business will make up for some of the lost refi business. Caveat: If the increase in home price appreciation continues to be driven by all-cash bidding wars in Las Vegas, then the effect will be more muted. We need to see home price appreciation in places like the Northeast and Midwest for this to really start turning things around. 

 

JP Morgan Chase is cutting 1,800 jobs in its mortgage unit, with the hits primarily coming from servicing (as delinquencies fall) and its Albion NY call center (as the refi market dries up).

Markets are higher this morning after yesterday’s decline. This week is relatively data-light until Friday. Bonds ad MBS are down small.

 

Mortgage Applications rose 5% last week as the Bankrate 30 year fixed rate average fell from 4.1% to 4.03%. Refis were up 5%.

 

The sell-off in bonds and MBS has not only hit mortgage REITs like Annaly and American Capital, who are down 25% + in the last month, it has also hit some hedge funds as well. $1.5 billion Metacapital is down 6.5% this year. The REITs are levered something like 6:1 and the hedge funds are undoubtedly levered as well. Margin calls could start soon, and when they happen, look out below. MBS are one of those investments that pretty much everyone is long, and there are few buyers when they get hit. The point of this: watch your locks. It is a dangerous environment to float in.

 

Corelogic has put out its latest equity report. Just under 20% of all homes are underwater and negative equity fell by 8.7% in the first quarter.

Markets are lower after the Bank of Japan left policy unchanged. Bonds and MBS are heavy again, with the 10 year yielding 2.26%

Part of the issue with the weakness in the bond and MBS market is convexity-related hedging. Convexity hedging is coming out of the mortgage REITs primarily, but also anyone who holds mortgages as an investment and hedges the interest rate risk. The “inside baseball” explanation of what is going on: Mortgage REITs are finding that as rates increase, the duration of their mortgage backed securities increases. This means they have to either sell MBS or Treasuries to rebalance their hedge.” The punch line: selling begets more selling. And that is partly why the 10 year and MBS cannot get out of their own way.

The NFIB Small Business Optimism report ticked up to 94.4 in June, the highest level in a year, and the second highest reading since the recession started in 2007. That is the good news. The bad news? The number is still very weak, and only slightly higher than the post-recession average.  The biggest headaches for small business?  Taxes, Government regulations / red tape, and poor sales. In that order. The elephant in the room is obamacare. The report highlights one of the big disconnects happening right now, with the S&P 500 near record levels. The big multinationals are doing fine, but small business is barely growing with population. Since small business is half of the economy, it explains why we can have record levels in the S&P 500 and “meh” economic growth.If multinational profits correspond to 4% GDP growth, and the small business sector profits correspond to 0% GDP growth, you get 2% growth as an average number. 

Traders are well aware of the “fat finger” phenomenon. This happens when you are entering an order and accidentally hit two keys at once, turning an order to buy 100,000 shares into an order to buy 1,200,000 shares. Well, we have a fat head error. And no, I am not talking about the one where a guy ordered a Tom Brady Fathead poster for his office and got Tebow instead. 

Remember eminent domain? It’s baaaack. Or at least advocates have some new ammunition – a paper by Cornell law professor Robert Hockett. He argues that municipalities should, in partnership with investors, “condemn” underwater mortgage notes, pay mortgagees “fair value” and systematically write down principal. Of course any municipality that pursues this will effectively be cutting their citizens off from Fannie Mae / Freddie Mac / Ginnie Mae loans.

Markets are higher this morning on no real news.  There is no economic data this morning. Bonds are weaker, with the 10 year yield at a 16 month high of 2.18%. MBS are down small.

 

Pretty light week, data wise. We will get NFIB Small business Optimism on Tuesday, retail sales on Thursday, and industrial production / capacity utilization on Friday. None of these should be market moving. 

 

Compass Research is out saying the death of NJ Senator Frank Lautenberg pretty much makes Mel Watt an unlikely confirmation. It drops his “yes” votes from 56 to 55. Separately, KBW is out saying that Fannie Mae common stock is worthless. Of course is still sports a $11.4 billion market cap

 

Home equity increased by $816 billion in Q1, according to the housing scorecard, put out by HUD. Delinquencies are down 7% in the month of May. In spite of the back up in mortgage rates, housing still remains highly affordable.

 

US bond fund redemptions are the highest since 1992. Bill Gross, who’s fund lost 1.9% in May predicted that April of 2013 will go down as the end of the three decade bull market in bonds that began in the early 1980s. A poll by Bloomberg predicts that the Fed will cut its quantitative easing program from $85 billion a month to $65 billion a month at the October 29-30 FOMC meeting.

Markets are higher after the jobs report came in pretty much in line. Bonds and MBS are flat / down small.

 

The jobs report showed that nonfarm payrolls increased by 175,000 in the month of May, slightly higher than Street estimates (which were lowered after the ADP report). April was revised downward from 165k to 149k. The unemployment rate ticked up from 7.5% to 7.6% as the labor force participation rate ticked up from 63.3% to 63.4%. Earnings and workweek were flat. Since the report was pretty much in line with expectations,we aren’t seeing any big reaction in the markets.

 

Remember my question about mortgage rates on Wednesday? Basically how did the Bankrate average 30 year mortgage rate jump from 3.9% to 4.1% when the bond market was flat and we had a weak day in Fannie TBAs? Well, whatever it was, it has been reversed, as the Bankrate average 30 year mortgage rate fell 18 bps back to 3.98%. Strange.

	Last	Change	Percent
S&P Futures	1611.6	3.6	0.22%
Eurostoxx Index	2725.5	16.2	0.60%
Oil (WTI)	94.24	0.5	0.53%
LIBOR	0.274	0.000	-0.07%
US Dollar Index (DXY)	82.35	-0.248	-0.30%
10 Year Govt Bond Yield	2.11%	0.03%
Current Coupon Ginnie Mae TBA	101.8	-0.2
Current Coupon Fannie Mae TBA	100.2	-0.2
RPX Composite Real Estate Index	201.9	0.1
BankRate 30 Year Fixed Rate Mortgage	4.16

Markets are flattish after initial jobless claims came in as expected. Challenger and Gray reported that announced layoffs are 41% below last year’s pace.  Bonds and MBS are flat.

 

Moderate. Modest. Measured. That is the summary of the Fed’s Beige Book Survey of economic growth. The bright spot of the report was residential real estate construction. The Dallas District noted the strongest growth, while growth elsewhere was modest to moderate. Since this report is basically as amalgam of the various Federal Reserve District reports which have been previously released, it isn’t a market-mover. 

 

The Senate plan to wind down the GSE’s (Corker / Warner) would liquidate Fannie and Fred, transfer all of their liabilities to Treasury. The liquidation preference would be to the US Government first, then the junior prefs, and then the common shares. Note that Fannie Mae and Freddie Mac’s recent record profits have not gone to paying down their debt to the government – those funds have been simply revenues to the government. A new entity – The Federal Mortgage Insurance Commission would have a re-insurance role and backstop private insurance. Ginnie Mae would not be affected.