Morning Report: Recession risks rising

Vital Statistics:

S&P futures3,93840.25
Oil (WTI)112.280.69
10 year government bond yield 2.85%
30 year fixed rate mortgage 5.42%

Stocks are higher this morning after China cut interest rates overnight. Bonds and MBS are flat.

The Chinese economic situation will be something to watch as that will probably stick a fork in a lot of the commodity inflation we have been seeing. China has a real estate bubble comparable to the one the US experienced in the 1920s and Japan experience in the 1980s. I suspect that countries which experience decades of supernormal growth often create real estate bubbles, which cause epic slowdowns – the Great Depression in the US, the lost decade in Japan.

Risks for a US recession in late 2022 and early 2023 are building, and we are starting to see some strategists become more pessimistic on the economy. “Recession risks are high — uncomfortably high — and rising,” said Mark Zandi, chief economist at Moody’s Analytics. “For the economy to navigate through without suffering a downturn, we need some very deft policymaking from the Fed and a bit of luck.” Senior executives from Wells Fargo and Goldman Sachs have echoed this sentiment.

Further evidence is coming from retailer earnings. “While we anticipated a post-stimulus slowdown in these categories … we didn’t anticipate the magnitude of that shift,” Brian Cornell,Target’s chief executive, said in a Wednesday earnings call. “When we talk to our guests, they often express their concerns about a host of rapidly changing conditions, ranging from geopolitics to the high and persistent inflation they’ve been experiencing.”

Recessionary risks will put a ceiling on interest rates, which is why we may have seen the peaks of interest rates already in this tightening cycle. That said, the Fed Funds futures have yet to reflect this changing sentiment.

Lower-credit borrowers are beginning to fall behind in auto loans and credit cards. Delinquencies are rising in these sectors, which should at some point filter through to FHA loans, I suspect. We are still in a historically strong credit environment (stimulus checks plus a healthy labor market) but if we do see a recession credit quality will deteriorate. 30 day mortgage delinquency rates are at 2.8%, which is down 40% from last year.

Morning Report: Stock market sell-off continues

Vital Statistics:

S&P futures3,880-40.25
Oil (WTI)105.98-3.69
10 year government bond yield 2.78%
30 year fixed rate mortgage 5.51%

Stocks are lower this morning, continuing off of yesterday’s bloodbath. Bonds and MBS are up.

The sell-off in the stock market has been pretty brutal. The VIX, which is an indicator of market pain is spiking, but is not overly elevated. The bottom of a sell-0ff is usually indicated with a dramatic spike. The chart below shows the VIX going back to 2000. You can see that the bursting of the tech bubble in 2000 didn’t really cause much of a spike, but the big spikes around 9/11, the 2008 financial crisis, Brexit, and COVID stand out. At least according to this indicator, we aren’t at maximum fear yet.

Despite the market sell-off, the index of leading economic indicators is still pretty strong. “The US LEI declined in April largely due to weak consumer expectations and a drop in residential building permits,” said Ataman Ozyildirim, Senior Director of Economic Research at The Conference Board. “Overall, the US LEI was essentially flat in recent months which is in line with a moderate growth outlook in the near-term. A range of downside risks—including inflation, rising interest rates, supply chain disruptions, and pandemic-related shutdowns, particularly in China—continue to weigh on the outlook. Nevertheless, we project the US economy should resume expanding in Q2 following Q1’s contraction in real GDP. Despite downgrades to previous forecasts, The Conference Board still projects 2.3 percent year-over-year US GDP growth in 2022.”

Existing Home sales fell 2.4% in April, according to NAR. The median home price rose 14.8% to $391,200. It looks like home price appreciation is moderating a little. “Higher home prices and sharply higher mortgage rates have reduced buyer activity,” said Lawrence Yun, NAR’s chief economist. “It looks like more declines are imminent in the upcoming months, and we’ll likely return to the pre-pandemic home sales activity after the remarkable surge over the past two years.” Inventory is still extremely low, but is up marginally from a few months ago.

Mortgage applications fell 11% last week as purchases fell 12% and refinances fell 10%. Refinances are 76% lower than this time last year. “Mortgage rates – despite declining last week – remained over two percentage points higher than a year ago and close to the highest levels since 2009,” said Joel Kan, MBA Associate Vice President of Economic and Industry Forecasting. “For borrowers looking to refinance, the current level of rates continues to be a significant disincentive. Furthermore, general uncertainty about the near-term economic outlook, as well as recent stock market volatility, may be causing some households to delay their home search,” he said. These results were consistent with MBA’s May forecast released earlier this week, which now calls for fewer home sales and mortgage originations in 2022 compared to a year ago.”

Mortgage builder applications fell 14% in March, according to the MBA. “The spike in mortgage rates cooled demand and homebuilders continued to grapple with rising costs, supply-chain issues and extended completion timelines,” said Joel Kan, MBA Associate Vice President of Economic and Industry Forecasting. “With the supply of existing homes on the market still at extremely low levels, the new home market is an important source of housing supply. However, the pace of construction has slowed in recent months.”

Morning Report: Housing starts disappoint again.

Vital Statistics:

S&P futures4,036-49.25
Oil (WTI)113.981.69
10 year government bond yield 2.98%
30 year fixed rate mortgage 5.48%

Stocks are lower this morning after lousy retailer earnings. Bonds and MBS are down.

I just got back from the Secondary conference in NYC. Seemed much more sparsely attended than previous years. The talk is all about cost-cutting and getting every last basis point you can out of a loan. Non-QM was a big subject, especially the part about that market drying up a couple months ago when rates spiked. Credit spreads for NQM are in from the wides of a couple months ago, but are still nowhere near where they were at the end of last year.

Retail sales rose 0.9% in April, which was a touch below expectation. These numbers are nominal, which means inflation isn’t taken into account. Ex-vehicles they rose 0.6% and ex-vehicles and gas they increased 1%. FWIW, we have seen some poor numbers out of the retailers – Target announced earnings this morning and is down 25% compared to yesterday’s close. Margins are decreasing an costs (especially distribution costs) are up. WalMart was beaten up pretty badly yesterday as well.

Do these numbers raise concerns about consumption, which is 70% of the US economy? Not yet, is the short answer. During the COVID lockdowns, people spent more on goods and less on services. Now that the pandemic is largely behind us, that is reversing. People are taking trips and vacations instead of spending on a new TV. Note that rising gas prices are having an effect as well. Rising gas and food prices crowd out other discretionary spending. Falling consumption will help alleviate price pressures, which is something that the Fed would like to see.

Jerome Powell said that no one should doubt the Fed’s resolve to fight inflation, even if that means unemployment will increase. “Restoring price stability is an unconditional need. It is something we have to do,” Mr. Powell said in an interview Tuesday during The Wall Street Journal’s Future of Everything Festival. “There could be some pain involved.” The Fed has painted itself into a corner, as the economy is weakening and the Fed needs to tighten to bring inflation under control. In a lot of ways, this was the story of the 1970s.

Housing starts disappointed again, coming in at 1.72 million in April. This is down MOM, but up significantly year-over-year. Building Permits rose to 1.82 million, in line with expectations.

The NAHB Housing Market Index – a measure of homebuilder sentiment – fell pretty dramatically from 77 to 69. This is a two year low on the index. “The housing market is facing growing challenges,” said NAHB chief economist Robert Dietz. “Building material costs are up 19% from a year ago; in less than three months mortgage rates have surged to a 12-year high, and based on current affordability conditions, less than 50% of new and existing home sales are affordable for a typical family.”

The MBA revised its forecasts for 2022 and 2023. Total originations for 2022 have been lowered from $2.5 trillion to $2.6 trillion. 2023 and 2024 are expected to contract further to $2.3 trillion and $2.5 trillion respectively.

Interestingly, they think rates have peaked here. They see the 30 year fixed rate mortgage settling out at 5.2%, and then gradually declining to 5% by the end of the year and then falling to 4.8% in 2023. The 10-year Treasury is expected to find a level at 2.9%. GDP growth is expected to stay below 2% for the next couple of years. Inflation is forecasted to peak around 8%, and fall to 5.4% by the end of the year.

Needless to say, the underlying assumption here is that the Fed can stick the landing and cool off inflation without causing a recession. In other words, this is probably a best-case scenario economically. Historically, an aggressive tightening schedule has caused recessions. The difference is that we have a super-tight labor market going into a tightening cycle. On the other hand, globalization and technology have papered over a lot of monetary sins over the past 40 years and that phenomenon is largely played out.

OPEN THREAD: for new comments

A traditional NR conservative, Matthew Continetti, has written a new book on the last hundred years of American conservatism. YMMV, but after watching the video, your commentary is invited.

Morning Report: Dour consumer sentiment

Vital Statistics:

S&P futures3,97140.25
Oil (WTI)109.313.19
10 year government bond yield 2.90%
30 year fixed rate mortgage 5.44%

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

Jerome Powell sounded hawkish yesterday when discussing inflation.

“We fully understand and appreciate how painful inflation is,” Powell said in an interview with the Marketplace national radio program, repeating his expectation that the Fed will raise interest rates by half a percentage point at each of its next two policy meetings while pledging that if data turn the wrong way “we’re prepared to do more. Nothing in the economy works, the economy doesn’t work for anybody without price stability…We went through periods in our history where inflation was quite high … The process of getting inflation down to 2% will also include some pain, but ultimately the most painful thing would be if we were to fail to deal with it and inflation were to get entrenched in the economy at high levels, and we know what that’s like. And that’s just people losing the value of their paycheck.”

Import prices were flat in April after rising steadily for months. The US dollar has been rallying on higher interest rates in the US, which is helping offset rising inflation overseas. On a year-over-year basis they were up 7.2%.

Consumer sentiment fell in May, according to the University of Michigan Consumer Sentiment Survey. As you can see from the chart below, consumer sentiment is associated with lows that are generally associated with deep recessions (especially 2008 – 2010 and 1980 – 1982). Inflation is the driving force here.

Consumers’ assessment of their current financial situation relative to a year ago is at its lowest reading since 2013, with 36% of consumers attributing their negative assessment to inflation. Buying conditions for durables reached its lowest reading since the question began appearing on the monthly surveys in 1978, again primarily due to high prices. The median expected year-ahead inflation rate was 5.4%

Surveys of Consumers Director Joanne Hsu

The one bright spot in the report is that consumers believe longer-term inflation will drop to 3% or so, which is still above the Fed’s long-term rate but probably not high enough to materially change consumer behavior.

Morning Report: Inflation cooling but still close to highs.

Vital Statistics:

S&P futures3,910-20.25
Oil (WTI)105.910.19
10 year government bond yield 2.86%
30 year fixed rate mortgage 5.51%

Stocks are lower again on Fed fears. Bonds and MBS are up.

It looks like the “risk off” trade is beginning to positively affect bonds. Bonds are rallying, however MBS are lagging (as usual). The S&P 500 is within spitting distance of official bear market territory, which would be 20% off the high set in January. The Nasdaq entered that territory long ago.

Inflation at the wholesale level rose 0.5% in April, according to the Producer Price Index. This is a deceleration from the 1.5% we saw in March and 1.1% we saw in February. On a year-over-year basis, the PPI is up 11%. The core rate rose 0.6%, which was a deceleration from February and March. It is up 6.9% on a year-over-year basis. While the deceleration in month-over-month increases is welcome, the Fed is probably going to stick to is schedule and hike rates another 50 basis points at the June meeting.

Wages are rising, however they are not keeping up with inflation. Real (inflation-adjusted) wages fell 0.1% month-over-month in April, according to BLS. On a year-over-year basis, real wages fell 2.6%. Separately, initial jobless claims rose 203,000 last week. Overall the labor market is exceptionally strong, although the big question comes out to where inflation plateaus. That will determine whether we get the dreaded wage-price spiral that the Fed is trying to prevent. The low unemployment rate gives the Fed some breathing room to raise rates more aggressively.

With rising rates, ARMs are making a comeback. Last week the 30 year fixed rate mortgage was 5.53%, while 5/1 ARMS were 4.47%. “Despite a slow start to this year’s spring home buying season, prospective buyers are showing some resiliency to higher rates. Purchase activity has now increased for two straight weeks,” said Joel Kan, an MBA economist, in a release. “More borrowers continue to utilize ARMs to combat higher rates. The share of ARMs increased to 11% of overall loans and to 19% by dollar volume.”

ATTOM reported that 45% of mortgaged residential properties were considered equity rich, compared to 32% a year ago. “Homeowners continue to benefit from rising home prices,” said Rick Sharga, executive vice president of market intelligence for ATTOM. “Record levels of home equity provide financial security for millions of families, and minimize the chance of another housing market crash like the one we saw in 2008. But these higher home prices and rising interest rates make it extremely challenging for first time buyers to enter the market.”

Morning Report: Inflation comes in hotter than expected

Vital Statistics:

S&P futures3,969-27.25
Oil (WTI)103.814.19
10 year government bond yield 3.03%
30 year fixed rate mortgage 5.49%

Stocks are lower this morning after inflation came in hotter than expected. Bonds and MBS are down.

Inflation rose 0.3% MOM and 8.3% YOY, according to BLS. This is a deceleration from the 1.2% MOM increase we saw in March. The core inflation rate (ex-food and energy) rose 0.6% MOM which was double March’s rate of increase. Since the Fed focuses more on core numbers, this stat is getting the market’s attention. The core rate rose 6.2% YOY.

Energy prices fell, although much of that was due to seasonal adjustments. We are heading into the summer driving season, where demand will spike.

Shelter rose 5.1% YOY, however this number is going up given how fast home price appreciation has been. It generally gets reflected with an 18 month lag, so the torrid price appreciation over the last two years will begin adding upward pressure to the index going forward.

Overall, this report changes nothing with respect to the Fed. It will probably hike another 50 basis points at the June meeting. Stocks and bonds were up prior to the report, so the market is taking it negatively.

Mortgage Applications rose by 2% last week as purchases increased 5% and refis fell 2%. “The increase in mortgage applications last week was driven by a strong gain in application activity for conventional and government purchase loans, even as mortgage rates rose to their highest level – 5.53 percent – since 2009,” said Joel Kan, MBA Associate Vice President of Economic and Industry Forecasting. “Despite a slow start to this year’s spring home buying season, prospective buyers are showing some resiliency to higher rates. Purchase activity has now increased for two straight weeks.

Mortgage credit tightened in April, according to the MBA. Its Mortgage Credit Availability Index fell by 3.2%. The decrease was driven by government loans, specifically streamline refis. “Lenders reacted to the jump in mortgage rates over the past two months,” said Joel Kan, MBA Associate Vice President of Economic and Industry Forecasting. “With the rate/term refinance business drying up, lenders have reduced the availability of government streamline refinancing programs, which are no longer as relevant an option for many borrowers.” Mortgage credit overall is about as tight as it was in the aftermath of the financial crisis. Note how much lower it is compared to the bubble years. This is one of the many reasons why the acceleration in home prices doesn’t portend the sort of bust we had in 2006.

Rocket reported that first quarter volumes fell 48% YOY to $54 billion while gain on sale margin contracted to 3.01% from 3.74%. The company is guiding for Q2 volumes to come in between $35 billion and $40 billion and for gain on sale margins to fall to 2.6% – 2.9%. Rocket said that bond market volatility contributed positively to its first quarter gain on sale, so this guidance is probably a reversal of that.

“Rocket delivered a solid performance in the first quarter and achieved our best Q1 volume in purchase and cash out refinances, even as rates rose rapidly. Now, as we move further into the year, we will successfully navigate the mortgage and real estate headwinds by protecting our margin and profitability while continuing to invest in strategic areas such as technology, partnerships and performance marketing to grow share and expand our business for the long term,” said Jay Farner, Vice Chairman and CEO of Rocket Companies.

Rocket’s comments about protecting margin and profitability are probably welcome news for independent mortgage bankers who are worried about a replay of the UWM / Rocket price war of 2018. Rocket’s stock is down 10% this morning.

Morning Report: Small Business Optimism Remains Under Pressure

Vital Statistics:

S&P futures4,04760.25
Oil (WTI)102.81-0.69
10 year government bond yield 2.98%
30 year fixed rate mortgage 5.58%

Stocks are rebounding this morning after yesterday’s bloodbath. Bonds and MBS are up.

The 10 year yield touched 3.2% yesterday and has been falling pretty dramatically ever since. Not sure what is driving it, but it is a welcome respite from march higher in rates. One thing to keep in mind is that as rates rise, more foreign money will be attracted to Treasuries. The US dollar has been moving steadily higher, which is good news for inflation as it make imports less expensive. We have a lot of Fed-speak today, and bonds are bracing for the consumer price index report tomorrow.

Small Business Optimism remained flat at 93.2 according to the National Federation of Independent Businesses.

While inflation remains uppermost in the minds at the Federal
Reserve, the “R” word (recession) has increasingly appeared in the
prognostications of economists. Predictions have a recession starting
as early as the third quarter of this year, although most guesses have
2023 for the start. The Fed announced a rate hike of half a point this
month with more hikes to come in future meetings. Interesting side
note, in the “old days” the Fed would raise rates between meeting if
thought necessary, not something they’re likely to do this go around
though. Under Paul Volcker, the Fed’s rate hit 20 percent, a long way
from where we are today. If, historically, the Fed’s rate needs to be
above inflation to be effective, we have a long way to go and the

Fed is way behind the curve.

The point about the Fed Funds rate and inflation is important. Economists distinguish between two interest rates: nominal and real. Nominal rates are what you read on the screen or see posted on CNBC. Real interest rates take into account inflation, since inflation works counter to interest rates. In other words, interest rates make your future money bigger, while inflation makes your future money smaller.

With inflation running at 6% or so, and the Fed Funds rate below 1%, real interest rates are still highly negative – in fact they are more negative than they were a year ago, even with the recent rate hikes. The prospect of the Fed’s necessary rate hikes has small businesses highly pessimistic about the second half of 2022.

United Wholesale reported first quarter earnings, with volume falling 21% YOY to $38.8 billion. Gain on sale margins improved to 0.99% from 0.8% in the fourth quarter of 2021. Guidance for Q2 is for volumes to contract to $26 – $33 billion and for gain on sale margins to fall to a range of 75 to 90 basis points. The company also announced a $300 million stock buyback and maintained its $0.10 dividend. The stock is up about 12% this morning.

Loan Depot also announced earnings this morning, which disappointed the street. Volumes fell 48% YOY to $21.6 billion, and gain on sale margin fell to 1.96% compared to 2.23% in the fourth quarter of 2021. Loan Depot is guiding for Q2 volume to fall to between $13 and $18 billion and for gain on sale margins to come in between 160 and 210 basis points. The stock is down about 22% this morning.

Rocket will announce its numbers after the close.

Morning Report: Bostic pours cold water on 75 basis point hikes

Vital Statistics:

S&P futures4,056-65.25
Oil (WTI)107.41-2.69
10 year government bond yield 3.14%
30 year fixed rate mortgage 5.59%

Stocks are lower this morning as rates continue to rise. Bonds and MBS are down.

The upcoming week is pretty data-light, as is typical after the jobs report. We will get inflation data with the CPI and PPI on Wednesday and Thursday. We will get a lot of Fed-speak however.

Neel Kashkari said that inflation will come down, but there might be some pain. “I’m confident we are going to get inflation back down to our 2% target,” he told CNBC’s “Squawk Box” in a live interview. “But I am not yet confident on how much of that burden we’re going to have to carry vs. getting help from the supply side. It’s the lowest-income Americans who are most punished by these climbing prices, and yet your policy tools to tamp down inflation most directly affect those lowest-income Americans as well, either by raising the cost to get a mortgage … or if we have to do so much that the economy were to go into recession,” he said. “It’s their jobs that are most likely put at risk.”

Separately, used car prices (which are a surprisingly big component of inflation) are down 6.4% from their January peak. “We clearly have returned to vehicles depreciating again. That’s a good news story for both inflation and for consumers looking to buy a vehicle,” Jonathan Smoke, chief economist at Cox Automotive told CNBC.

Ralph Bostick said the Fed can hike rates 50 basis points at the next two to three meetings and then re-assess. The half point increase approved by the Fed last week “is already a pretty aggressive move. I don’t think we need to be moving even more aggressively. I think we can stay at this pace and this cadence and really see how the markets evolve … We are going to move a couple times, maybe two, maybe three times, see how the economy responds, see if inflation continues to move closer to our 2% target, then we can take a pause and see how things are going.”

Morning Report: Strong Jobs Report

Vital Statistics:

S&P futures4,106-40.25
Oil (WTI)109.811.69
10 year government bond yield 3.10%
30 year fixed rate mortgage 5.54%

Stocks are lower as markets continue their post-Fed sell-off. Bonds and MBS are down.

The economy added 428,000 jobs in April, which was a touch above the 400,000 consensus estimate. The gains were widespread, with leisure / hospitality adding 78,000 and manufacturing adding 55,000. Despite the recent gains in payrolls, we are still about 1.2 million jobs below pre-pandemic levels.

The unemployment rate was flat at 3.6%. Average hourly earnings increased 5.5% year-over-year. The labor force participation rate declined to 62.2% and the employment-population ratio declined to 60%.

Overall, this is a strong jobs report and it gives the Fed leeway to keep increasing interest rates. Historically, a 3.6% unemployment rate is exceptionally low, so they could let it increase modestly and still be within the boundaries of “full employment.”

Delinquencies declined to 4.11% in the first quarter, according to the MBA. This was down from 4.65% in the fourth quarter of 2021 and 6.38% a year ago. FHA delinquencies fell substantially. Most of the decrease was in the 90+ day bucket where the loans were either cured or entered post-forbearance workout plans.

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