All Things in Moderation

Vital Statistics:

Markets are mixed this morning as optimism on the fiscal cliff is overshadowed by European events.  Mario Monti is resigning, creating an opening for Silvio Berlusconi to return.  Italian bond yields are up 31 basis points to 4.83%.  Japan is officially in a recession again (its third in the last four years) as 3Q GDP shrank at a 3.5% annualized rate. Bonds and MBS are up small.

Generally, we have a data-light week coming up, with inflation numbers dominating.  The FOMC rate decision is Dec 12.

The details of a deal on the cliff are taking shape.  On the revenue side, either a “split the difference” between the current top rate and 39.6%, or a redefinition of what is considered “rich,” to 375k – 500k. Entitlement cuts will be part of the package.  Ezra Klein reported Friday that the deal will probably be an increase in the top rate to 37% and an increase of the Medicare eligibility age to 67. Both sides seem to be inching closer together, and we’ll see if Boehner can pull his caucus together when they meet on Wed. 

Ever since the financial crisis began, “uncertainty” has become the buzzword thrown out to explain why the economy continues to limp along. Two professors from Chicago and Stanford tested the hypothesis that uncertainty is driving the economy by regressing economic variables against the number of times the word “uncertainty” was mentioned in the press.  They found a statistical relationship between the two, and estimate that the upturn in uncertainty caused a 16% drop in private investment and 2.3 million jobs. Of course there is a big risk of confusing correlation and causation.  Does uncertainty cause a bad economy, or does a bad economy increase the risk that government will do something (either good or bad) in an attempt to fix the economy?

New lawsuits continue to be filed against the banks for the sins of the subprime crisis. Some in the banking industry fear the cost could reach $300 billion. Investors are now suing the trust banks for failing to police issuers.  This is a new front, as the trust banks merely hold the securities and collect / disburse payments for a nominal fee.  Servicers, are you next?

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Vital Statistics:

Markets are higher after a better-than expected jobs report.  Nonfarm payrolls increased by 146k in November vs an expectation of 85k.  October was revised down from 171k to 138k.  The unemployment rate dropped from 7.9% to 7.7%, but this was driven by a drop in the labor force participation rate from 63.8% to 63.6%. Surprisingly, Sandy didn’t appear to have much of an impact on the numbers. Still the headline numbers look good, and that is driving the index futures higher.  Feels like the Street was leaning short going into the numbers.  Bonds are down a point and MBS are down 7 ticks.

Small Business Hiring Plans hit post-recession low. Hiring plans are as low as they were in late 2008.  Resolution of the election “uncertainty” doesn’t seem to be having an effect, at least not yet.  We’ll see if resolving the fiscal cliff changes anything; my guess is that it won’t. 

The National Association of Homebuilders added 76 MSAs to their Improving Markets Index. The recent housing strength is spreading across the country. They note that “overly tight mortgage lending standards” are the one thing that is holding back progress.

HUD Secretary Shaun Donovan told the Senate Banking Committee that FHA is committed to selling at least 10,000 distressed loans per quarter over the next year, and it will raise the annual insurance premium paid by borrowers by 10 basis points. 

If the Fed adds another Treasury-buying program to compensate for the end of Operation Twist, they will almost certainly have to re-write their exit plan.  The sheer size of the numbers (estimates are that the Fed will have to sell $2 – $3 trillion worth of assets over several years.  If the Fed attempts to dump mortgage backed securities en-masse, it will exacerbate the increase in borrowing rates that will already be taking place.  

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Vital Statistics:

Markets are flattish this morning as Washington continues to grind to some sort of agreement on the fiscal cliff.  Initial Jobless Claims fell to 370k. The ECB kept rates at .75% and cut their 2013 GDP forecast to a range of -.9% to .3%.  S&P lowered Greece’s bond rating to “selective default.”  Bonds are up 1/4 while MBS are flat.

FHFA Acting Chairman Ed DeMarco will be speaking at SIFMA at 1:00 pm. HUD Secretary Shaun Donovan will head to the Hill today to talk about the sorry state of the FHA.

More Republicans are showing openness to increasing rates on the rich in exchange for entitlement spending cuts. So far, the President has shown little interest in cutting any spending aside from defense.  One possibility under discussion involves splitting the difference between 35% and 39.6% on the top rate. That would allow both parties to claim victory.  

Challenger and Gray reported job cuts increased 34% in November to 57,000.  This was the second-highest month of the year.  About a third of the announcements come from the Hostess bankruptcy.  Of course December already has 11,000 cuts in the bag as well, courtesy of Citi.  Wall Street has shed 300,000 jobs in the last two years, and more are on the way if revenues don’t start increasing.

The NY Department of Financial Services has ordered Ocwen to hire a monitor to ensure compliance with its agreement with the state. The state found instances where Ocwen did not provide a single point of contact to borrowers and did not send a 90-day notice before instituting foreclosure proceedings. 

Is the overseas cheap labor arbitrage coming to an end?  Apple announced that it will bring some production back to the US from China. It is a nominal amount – $100 million – and it might just be a symbolic move after the Foxconn PR disaster. The compay has $121B of cash on its balance sheet.

Citi is now advising clients against putting money with Stevie Cohen. SAC spin-off Diamondback is shutting down.

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Markets are higher this morning after China eased investment restrictions on banks and announced measures to promote urban development. Chinese GDP has slowed from close to 9% to 7.5% over the last 9 months. While 7.5% GDP growth sounds impressive, it is back in late ’08-early ’09 levels. Productivity rose 2.9% in Q3, while unit labor costs fell 1.9%.  Bonds and MBS are flattish.

ADP reported a 118k increase in US nonfarm private sector employment for the month of November. This report was obviously driven by Hurricane Sandy. The biggest gains were in construction and utilities, while manufacturing fell. A blip upward in construction and temp workers for storm clean-up and a drop in manufacturing as plants with no power laid off employees.   October was revised downward.  Mark Zandi estimates that the hurricane depressed employment by 86k.

Edit:  Immediately after I hit “post,”  Citi announced they are cutting 11,000 jobs.  Wall Street continues to party like it is 2009.

Chart:  ADP change in non-farm payrolls:

Obama has drawn a line in the sand:  No increase in top rates for incomes over 250k, no deal. He expressed openness to cutting top rates next year in the context of broad tax reform.

Servicers beware:  Not only do you have to fear the CFPB, the state regulators are getting involved.  New York State is refusing to approve Ocwen’s purchase of Homeward and the servicing unit of ResCap unless the company agrees to bring in a monitor from NY State which would oversee operations for two years and recommend changes in business practices.  In all of my years of analyzing mergers and the regulatory process, I have never seen anything like this.  Ocwen goes on to point out that they have “not received from any regulator at the federal or state level or any level any findings or evidence we have wrongfully foreclosed on any borrower.”  This is unprecedented.

The Fed is expected to announce a new round of Treasury buying after Operation Twist ends at the end of the year. US GDP is expected to slow as uncertainty over the fiscal cliff has weighed on capital expenditures and hiring.  ML / BOA is forecasting 1% GDP growth in Q4 and Q1.

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Markets are flattish after John Boehner released the Republican counter-offer to Obama’s proposal. Needless to say, the two sides are far apart. We have the ISM New York later this morning and no other economic data.  Bonds are up slightly and MBS are down small.

John Boehner laid out the GOP proposal for the fiscal cliff last night: $800B in new revenues over the next decade, and $600B in cuts to entitlements.  The new revenues would come from limiting deductions on incomes over $250k, and would maintain current marginal tax rates.  Of the spending cuts, they propose to increase the Medicare eligibility age to 67 and to make changes to the CPI calculation that affects cost-of-living increases to Social Security.  Given that marginal tax rates will stay the same on the rich, this plan is obviously a non-starter with Democrats.

Toll Brothers released its 4Q earnings this morning and this release demonstrates how much different the landscape is today from a year ago.  Revenues were up 48%, signed contracts were up 75%, and backlog was up 70%.  Prices were up 3% YOY.  Toll is in the McMansion business, so these numbers are more representative of the high end.  Bob Toll made a point re homebuilding that I have been making – that household formation has been artificially depressed due to the economy, and that has created pent-up demand for new construction.  He cites a Harvard study that estimates that based on historical trends, 1.8 to 2.8 million households should have been formed since 2007 than were actually created.  He goes on to say that experts estimate the the housing industry has to product 1.4 to 1.7 million homes per year to keep up with demographic demand.  Don’t forget, 1.5 million has been the average number since the 1950s.  Our recent production has been around half that.  Since 2007.  TOL is up about 3% pre-open.

The upcoming increase in G-fees has created a flurry of activity as borrowers and lenders try and get loans done ahead of the increase.  November issuance of government-backed MBS increased 45% last month.  The G-fee increase takes effect on Dec 1, so expect issuance to fall off in the coming months.  

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Vital Statistics:

Markets are higher this morning after a better than expected PMI report out of China and Europeans took steps to solve their crisis there.  We will get the November ISM report and Construction Spending at 10:00 am. Bonds are down a point, while MBS are down a few ticks.

Talks on the fiscal cliff seem to be at a stalemate.  Both sides are digging in their heels and making their respective cases on the Sunday morning talk shows. Given that we have seen this movie before in the debt ceiling and the last time we approached the cliff, the markets are taking a sanguine view.  Two economists sum up the left / right views pretty well this morning:  Sameulson vs Krugman.

Has the G-fee become the new Social Security Trust Fund – in other words, the piggybank government uses to fund items unrelated to housing?  It would appear so.  They were used in the debt ceiling deal a couple of years ago, and are now being used to pay for visas for highly skilled immigrants. Never mind that the G-fee is   more or less an insurance policy payment used to compensate the GSEs for credit risk. Maybe the “G” in G-fee should be changed from “guarantee” to “general”

The Fed is contemplating another round of asset purchases as Operation Twist ends this year. While Minneapolis President Kocherlakota believes “monetary policy if anything is too tight,” Philly Fed President Charles Plosser warns that additional stimulus may not have the capability to affect employment rates and risks the possibility that the “US turns into a Japanese experience where we have extremely weak modest growth over a long period of time.”  It is refreshing to hear someone invoke the “J” word – Japan – which should be the elephant in the room, both in Washington and at the Fed.

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Markets are flattish on a morning with no major news. For the time being, the stock market will react to every new development in the talks. The S&P dropped 7 points yesterday after Boehner came out and cited no progress on the talks.  Expect a bumpy ride in the stock market until we reach some sort of resolution.  In economic news, Personal income was flat in October and Personal Spending was down .2%.  Both numbers  were lower than forecast, and were probably affected by Hurricane Sandy.

Obama’s opening demand on the fiscal cliff is basically:  new spending, and $1.6 trillion in new taxes.  McConnell apparently laughed in Geithner’s face when he presented it. So basically here is the bid / ask:  Higher tax rates and lower deductions on the rich, and increased spending vs the Romney Tax Plan. In other words, zero at par. 

Business Week has a piece on the shadow inventory.  They make a point I have been making that the shadow inventory is getting picked over. They fear that once this glut of houses in disrepair hit the market, they will depress pricing.  My point is that they are already on the market, basically going for almost nothing. Just for fun, I looked at some place on Zillow.  There are over 2,200 homes in Detroit for $15,000 or lower.  177 in Toledo, OH. 118 in Stockton, 31 in Harrisburg.  How are you going to depress these markets further?  How many will ever sell?  The only thing left is to write them down to zero (which probably has already happened) and move on. 

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Markets are stronger this morning on optimism over a deal on the fiscal cliff.  3Q GDP came in at 2.7% lower than the 2.8% estimate, but higher than the initial 2% estimate. Initial Jobless Claims were 393k and the prior week was revised upward.  Bonds are down, while MBS are flat.

The mortgage interest deduction, once considered untouchable, could be part of a deal on the fiscal cliff. Certainly that would be a negative for house prices, especially in expensive areas like DC, NYC metro area, and the West Coast.

Another tax break is the Mortgage Forgiveness Debt Relief Act, which is scheduled to sunset at the end of the year.  This prevents borrowers from getting a tax bill if they do a short sale or get a principal forgiveness mod on their loans. Consumer advocates are urging Congress to extend the tax break. 

SAC has received a Well’s notice. Stevie Cohen has apparently not been named in the Martoma case or the SEC’s documents, but the noose is tightening. 

FHFA Acting Director Ed Demarco gave a speech at the Exchequer Club in DC yesterday.  Key takeaways:  G-fees have risen and will continue to rise until credit risk is priced as it would be if private entities were doing it. I have seen some estimates that it will go to 75 bps. In addition, they are considering G-fee adjustments by locality, which means borrowers in judicial states will pay more. All of this is in an effort to “crowd in” private capital back to the mortgage market. The ultimate effect will be to make conforming mortgages more expensive, which means the push / pull between the Fed and the regulators will continue.  

Jim Grant has a great interview on Bloomberg discussing the Fed’s war with the market mechanism and the unintended consequences of ZIRP. Once of the biggest is the creeping “Japanesization” as artificially low rates keep zombie companies alive. 

The dog that didn’t bark:  The wave of foreclosures that never occurred.  

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