Morning Report: Stocks down as Credit Suisse gets slammed

Vital Statistics:

S&P futures3,895-57.75
Oil (WTI)70.35-0.91
10 year government bond yield 3.49%
30 year fixed rate mortgage 6.62%

Stocks are lower this morning as investors fret over problems at Credit Suisse. Bonds and MBS are up.

Some encouraging news on inflation: The Producer Price Index fell 0.1% MOM and 4.6% YOY. Interestingly, 80% of the drop was due to a 36% decline in the price of eggs. The index for final demand after stripping out food and energy rose 0.2% MOM and 4% YOY. The Consumer Price Index is more important than the PPI, but it demonstrates that commodity prices are falling.

Yesterday, Credit Suisse announced in its financial filings that it has identified “material weaknesses” in its reporting and financial controls. Credit default swaps on the company are approaching 1200 basis points on one-year senior debt.

Top Credit Suisse shareholder and Saudi National Bank Chairman Ammar Al Khudairy was asked by Bloomberg if he was willing to put in additional cash into the company, he said: “The answer is absolutely not, for many reasons outside the simplest reason which is regulatory and statutory.” 

The stock is down 29% in Swiss trading and is trading at a record low.

Chris Whalen had a great piece on the issues in the banking sector. His argument is that the issues in the banking system stem directly from quantitative easing. The problem is that these extremely low coupon mortgage backed securities become illiquid and hard to hedge when interest rates start to rise. Who wants a 2.5% Ginnie? I found this part good:

“It seems that SVB management anticipated a recession on the heels of last year’s tech meltdown,” notes a veteran fund manager and long-time reader of The IRA. “Not only was new biz going into hibernation but the credit quality of the SIVB loan book was going to be in jeopardy as were the potentially juicy returns of their warrant book and other holdco assets.”

He continues: “So, in anticipation of recession and the consequently assumed Fed pivot, they decided to proactively make a very large, long duration Treasury/MBS bet, figuring they’d hit the ball out of the park on that play which would more than offset the ensuing pain in the loan book, warrants, etc.”

This was nothing more than an outsized interest rate bet. The bank was doubling down on its MBS position as it went more and more underwater in hopes of making back the losses. It was entirely human (albeit bad) trading instincts.

Ken Griffin’s hedge fund Citadel has taken a 5.4% stake in Western Alliance, and UBS has initiated the stock with a buy this morning with a price target of $85. The company has proactively taken steps to improve its liquidity position and UBS thinks fears of contagion are overdone.

Retail sales fell 0.4% in February, driven by decreases in autos and gasoline prices. Excluding these items, retail sales were flat.

Mortgage applications increased 6.5% last week as purchases rose 7% and refis increased 5%. “Treasury yields declined late last week, as market concerns over bank closures and the potential for broader ripple effects triggered a flight to safety in Treasury bonds. This decline pushed mortgage rates for all loan types lower, with the 30-year fixed rate decreasing to 6.71 percent,” said Joel Kan, MBA’s Vice President and Deputy Chief Economist. “Home-purchase applications increased for the second straight week but remained almost 40 percent below last year’s pace. While lower rates should buoy housing demand, the financial market volatility may cause buyers to pause their decisions.”

The Mortgage Credit Availability Index fell in February. “Mortgage credit availability decreased to its lowest level since January 2013 with all loan types seeing declines in availability over the month,” said Joel Kan, MBA’s Vice President and Deputy Chief Economist. “The conforming subindex decreased 4.3 percent to its lowest level in the survey, which goes back to 2011. This decline was driven by the ongoing trend of shrinking industry capacity as mortgage rates stayed significantly higher than a year ago. Additionally, in this volatile rate environment and potentially weakening economy, there was also a reduction in refinance programs offered for low credit score and high-LTV borrowers.” 

Morning Report: Inflation remains elevated in February

Vital Statistics:

S&P futures3,933 44.75
Oil (WTI)73.50-1.24
10 year government bond yield 3.61%
30 year fixed rate mortgage 6.54%

Stocks are higher this morning as the regional banks rally. Bonds and MBS are down.

The regional banks are all rallying today despite news that Moody’s has placed a slew of them on review for a downgrade. Western Alliance is up big this morning after it increased its liquidity. First Republic is up 50%, as is PacWest.

The 10 year bond yield is up a touch this morning, but the 2 year yield is up 28 basis points to 4.26%.

Inflation at the consumer level rose 0.4% month-over-month and 6% year-over-year. Housing was the big driver of the increase, while lower energy prices helped pull the number down.

If you strip out food and energy, inflation rose 0.5% MOM and 5.5% YOY. The month-over-month number was a 0.1% uptick from January.

If it weren’t for SVB these numbers would justify a 50 basis point hike in the Fed Funds rate next week, but with cracks showing in the financial sector they probably can’t do that. The Fed Funds futures are predicting another 25 basis points with a small probability that the Fed stands pat.

Small business optimism improved in February, but remains well below its historical average. Inflation remains the biggest problem, although it looks like it has peaked, at least if you are looking at the number of firms planning price hikes. Labor is still a problem, as many small businesses have unfilled positions and cannot find the workers.

The report doesn’t mention the issue with the regional banks, although the vast majority of small businesses weren’t interested in borrowing anyway. Overall, small businesses expect a recession, but it is taking some time getting here. Spending remains robust, probably because people have job security.

Rate lock volumes rose 2% in February, according to Black Knight. “Mortgage rates ticked up again in February after a brief respite, showing once again just how rate sensitive the market continues to be,” said Kevin McMahon, president of Optimal Blue, a division of Black Knight. “Conforming rates dipped below 6% early in the month but finished it up 52 basis points from January. Even though the number of rate locks was down month over month, dollar volume increased due to a rate environment that favored jumbo and ARM loans over GSE products. Essentially, though, the story remains the same – one of a market facing significant interest rate-driven headwinds. As Black Knight reported last week in our latest Mortgage Monitor, there were clear signs of buyside demand when rates neared 6% – it just quickly pulled back when rates began to climb again.”

Guild has acquired Cherry Creek Mortgage, a Colorado-based lender.

Morning Report: Bank runs complicate the Fed’s plans

Vital Statistics:

S&P futures3,840 -20.75
Oil (WTI)74.44-2.24
10 year government bond yield 3.48%
30 year fixed rate mortgage 6.69%

Stocks are lower this morning as the markets digest the failures of Silicon Valley Bank and Signature Bank. Bonds and MBS are up big.

I talked a bit about the Silicon Valley Banking situation and the implications in a Substack article over the weekend. It goes into the theme I have been talking about where the US is re-living the 1970s. But here is the recap. Silicon Valley Bank failed on Friday, and the New York Fed took over Signature Bank on Sunday. Depositors at these banks will be made whole (even uninsured depositors). The Fed created a liquidity facility for banks over the weekend, with 1-year term loans that can be collateralized at par against Treasuries and MBS that are trading below par.

First Republic is down big pre-market and looks like the next domino to fall. Western Alliance is down big as well, despite assuring investors that its tech exposure was limited and it had ample liquidity. PacWest is another. Investors are shooting first and asking questions later

The Fed Funds futures are now handicapping a 48% chance of no move in March and a 52% chance of only a 25 basis point hike.

FWIW, I think the Fed anticipates that these bank failure will restrict credit in the banking sector, which will have a similar effect to rate hikes. In other words, they won’t need to hike the Fed Funds rate as much going forward because the bank failures are doing the work for them. We are seeing the flight-to-safety trade this morning as investors pile into sovereigns and MBS.

Silicon Valley Bank’s sin was to buy Treasuries and MBS without hedging the interest rate risk. Beset with withdrawal requests, it sold its available-for-sale securities at a loss to cover withdrawals. Every bank on the planet has been dealing with rapidly rising interest rates, and I wouldn’t be surprised to see some European banks in the same situation.

The Fed’s new credit facility is meant to prevent that from happening. Instead of selling securities at a loss into the market, banks can now pledge these securities as collateral at 100% of face for a loan to pay off deposit requests. It is a way for them to “sell” their securities for a year without taking losses. The Fed hopes that this will prevent a bank run.

The current environment is lousy for the banks because inverted yield curves make it hard to generate net interest income (i.e. the difference between what they receive on their investments minus their borrowing costs). This is why deposit rates remain stubbornly low – banks aren’t earning enough on their assets to cover the cost of market deposit rates. So people are pulling their deposits to buy Treasuries direct from the government. This is a bank run in slow motion, similar to the problems we had in the 1970s. Since this phenomenon has nothing to do with a bank panic – it is just people making rational financial decisions – the temporary bank facility isn’t going to do much to stem that problem. If deposit rates are lower than other options people are going to continue to pull money out of the banks. Other banks might have better risk management, but if deposits are falling, so will lending which will slow the economy.

While the 10 year bond has gotten the most attention, the action has been in the two year. The two year bond yield is now trading at 4.09%. It was at 5.06% on Wednesday. This is another signal the market thinks the Fed is done. Don’t forget that 2023 was the most aggressive tightening cycle in 40 years.

The upcoming week will have the Consumer Price Index on Tuesday, which creates a real conundrum if inflation is running hot again. We well also get a lot of housing data with housing starts and homebuilder sentiment.

Morning Report: Trouble in the banking sector

Vital Statistics:

S&P futures3,909-9.75
Oil (WTI)74.98-0.74
10 year government bond yield 3.78%
30 year fixed rate mortgage 6.80%

Stocks are lower this morning on fallout from the Silicon Valley Bancorp situation. Bonds and MBS are up.

Bank stocks got slammed yesterday after SVB Financial announced it would take actions to “strengthen its financial position.” SVB will sell its available for sale securities portfolio and undertake an equity and convertible preferred stock offering to raise capital. This sent the stock down 60% and also hit troubled First Republic. Tech venture capitalist Peter Theil has recommended that people pull their money from the troubled bank. The entire banking sector was sold off, with the KBW Bank Index down 7.7% for the day. The contagion has spread to Europe (the financial sector correlates a lot), and it sounds like SVB’s capital raise found no takers.

Below is a chart of the KBW Bank Index.

An inverted yield curve is a major headache for banks, who borrow short and lend long. If you want to know why your local bank is paying depositors well below the Fed Funds rate, well, there you go. If a bank is only earning 3.8% on Treasuries, it isn’t going to pay 4.25% on a savings account.

If there is one thing that could get the Fed to halt its tightening regime, troubles in the banking sector is it. We have been seeing bankruptcies in the commercial mortgage space (especially office and mall paper), so this is something to watch. Banking crises have a tendency to spread into unanticipated spaces, like when the subprime crisis ended up making the commercial paper market freeze. Sovereign yields are down across the board so the bond market is paying close attention to this.

Of course for mortgage originators this means even tighter credit from warehouse banks and liquidity risk for non-QM products. This will also mean much lower rates and an even more inverted yield curve as investors flock to safe assets. If the playbook runs as usual, we could see a flight to MBS as well since those are more or less guaranteed by the government.

The economy added 311,000 jobs in February, according to the Employment Situation Report. The gains were primarily in leisure / hospitality, government, retail and health care. The unemployment rate ticked up to 3.6% from 3.4%, while the labor force participation rate inched up to 62.5% and the employment-population ratio was flat at 60.2%. Both numbers remain below pre-pandemic levels.

Average hourly earnings rose 0.2% month-over-month and 4.6% year-over-year, which was below the 0.3% / 4.7% Street estimates. The average workweek fell. Since the Fed is mainly concerned with wage growth right now this should be welcome news. That said the CPI report next week will be the big driver and it will come during the quiet period for the Fed ahead of the March FOMC meeting so we won’t get any sort of take from the Fed until the actual meeting.

The jobs report and the SIVB situation have the markets leaning towards a 25 basis point hike again.

The Federal Trade Commission has voted to officially block the merger of Black Knight and ICE. The FTC did mention the proposed remedy of selling Empower to Constellation Software: “Black Knight has proposed to remedy the competitive harm resulting from the proposed deal by selling its Empower LOS and some related services to a technology company, Constellation Web Solutions, Inc. According to the complaint, the proposal does not address the anticompetitive effects in the market for PPE software and would not replace the intense competition between ICE and Black Knight in the LOS market.”

Apparently there was internal documentation from ICE about how it could use price increases for Encompass as a “ever” to drive revenue increases. Bad move. As part of the deal, ICE had committed to litigate with the FTC to get the deal done, but this is a classic “Coke and Pepsi” merger.

Morning Report: YTD job cuts are the highest since 2009

Vital Statistics:

S&P futures3,9960.75
Oil (WTI)77.00 0.34
10 year government bond yield 3.98%
30 year fixed rate mortgage 6.84%

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

Jerome Powell wrapped up a second day of testimony yesterday, and his prepared remarks were more or less the same as what he said on Tuesday in front of the Senate. After the markets took his remarks as a signal the Fed was planning to hike by 50 basis points in March, he added the comment that “I stress that no decision has been made on this” when referring to the Fed’s preparedness to increase the pace of rate hikes. Of course we will get the jobs report tomorrow, and the CPI next Tuesday which will determine what the Fed does in two weeks.

The Fed Funds futures see a 75% chance of a 50 basis point hike, although the 2 year yield has fallen this morning on some labor data that shows a potential softening in the data.

US employers announced 77,770 job cuts in February, according to outplacement firm Challenger, Gray and Christmas. This is down 24% from January, but multiples of last year’s number. Technology is the leader in job cuts. The YTD number is the highest since 2009. “Certainly, employers are paying attention to rate increase plans from the Fed. Many have been planning for a downturn for months, cutting costs elsewhere. If things continue to cool, layoffs are typically the last piece in company cost-cutting strategies,” said Andrew Challenger, Senior Vice President of Challenger, Gray & Christmas, Inc. “Right now, the overwhelming bulk of cuts are occurring in Technology. Retail and Financial are also cutting right now, as consumer spending matches economic conditions. In February, job cuts occurred in all 30 industries Challenger tracks,” he added.

Challenger and Gray basically compile a list of press releases and use that to come up with their numbers. So if Meta announces a bunch of job cuts, that gets counted, but if a small firm does a layoff without a press release that doesn’t factor into the numbers. So there is a big firm bias here.

Separately, Initial Jobless Claims rose to 211,000 last week.

Agile Trading, a fintech which facilitates MBS and TBA trading, just executed the first fully automated assignment of trade transaction. Agile’s platform helps mortgage lenders get better execution on hedges and introduces broker-dealers to a deep pool of TBA and MBS liquidity.

Loan Depot announced fourth quarter earnings yesterday. Since the company exited wholesale, the declines are rather dramatic. Funded volume in the fourth quarter came in at just under $7 billion, a decline of 43% compared to the third quarter and 80% on a year-over-year basis. Loan Depot is focusing on reducing expenses and targeting the first time homebuyer and diverse communities.

“Vision 2025 focuses on creating long-term shareholder value by creating an innovative, purpose-driven, and durable mortgage origination footprint focused on first-time homebuyers and serving diverse communities. We believe that a laser focus around putting first-time buyers into homes positions loanDepot to be a customer’s trusted resource when making key homeownership and other financial decisions. We also continued to centralize our operational functions and unified the leadership of our origination channels to sharpen our focus and accelerate the implementation of Vision 2025.

Morning Report: The markets see a 50 basis point hike in March

Vital Statistics:

S&P futures3,990 0.75
Oil (WTI)77.28-0.28
10 year government bond yield 3.97%
30 year fixed rate mortgage 6.78%

Stocks are flat as we await further Jerome Powell testimony. Bonds and MBS are flat.

Jerome Powell testified in front of the Senate yesterday and braced the markets for a 50 basis point hike in March. In his prepared remarks, Jerome Powell raised the possibility for a faster pace of tightening:

Although inflation has been moderating in recent months, the process of getting inflation back down to 2 percent has a long way to go and is likely to be bumpy. As I mentioned, the latest economic data have come in stronger than expected, which suggests that the ultimate level of interest rates is likely to be higher than previously anticipated. If the totality of the data were to indicate that faster tightening is warranted, we would be prepared to increase the pace of rate hikes. Restoring price stability will likely require that we maintain a restrictive stance of monetary policy for some time.

This puts a lot of weight on the Consumer Price Index next Tuesday. The reaction in the bond market was muted on the long end (the 10 year didn’t do much) but we saw the 2 year yield increase by 22 basis points to 5.09%. The 2s – 10s spread hit a negative 103 basis points, which is the most inverted yield curve since just before the 81-82 recession, which was a doozy.

The Fed Funds futures now see a 50 basis point hike at the March meeting:

Deutsche Bank strategist Jim Reid talked said that if history is any guide, yield curve inversions like this signal a recession is imminent: “Bear in mind that on all the previous occasions that the 2s10s has been more than -100bps inverted since data is available from the early 1940s (1969, 1979, 1980 and 1981) a recession has either been underway, or has occurred within a maximum of 8 months,” Reid said. “To highlight the rarity of such an occurrence, there have only been 7-month end closes lower than -100bps in 80 years of available data. So we are in rarefied air.”

As I discussed in my Substack piece over the weekend, a recession in the context of a strong labor market is entirely possible, and has happened in the past.

Speaking of the labor market, the ADP Employment Report said that the private sector added 242,000 jobs in February. The bad news for the bond market is that annual pay increased 7.2%. “There is a tradeoff in the labor market right now,” said Nela Richardson, chief economist, ADP. “We’re seeing robust hiring, which is good for the economy and workers, but pay growth is still quite elevated. The modest slowdown in pay increases, on its own, is unlikely to drive down inflation rapidly in the near term.”

The 242,000 increase is higher than the Street’s 220,000 forecast for Friday’s jobs report. The 7.2% wage increase is way higher than the 4.7% annual increase in average hourly earnings.

Mortgage applications increased 9% last week as purchases and refis rose the same amount. “Mortgage rates continued to increase last week. The 30-year fixed rate rose to 6.79 percent – the highest level since November 2022 and 270 basis points higher than a year ago,” said Joel Kan, MBA’s Vice President and Deputy Chief Economist. “Even with higher rates, there was an uptick in applications last week, but this was in comparison to two weeks of declines to very low levels, including a holiday week. Comparing the application indices from a year ago, purchase applications were still down 42 percent, and refinance activity was down 76 percent. Many borrowers are waiting on the sidelines for rates to come back down.”

On the heels of the FTC’s announcement of a lawsuit to block the ICE / Black Knight merger, the companies revised the terms of the deal and announced they have reached an agreement to sell Empower to Constellation Software, a Canadian firm. Constellation is kind of a Berskhire Hathaway of IT solutions – a decentralized collection of disparate providers of mission-critical software. The company has a market cap of $35 billion, so it can be considered a real buyer.

The deal was re-cut to lower the number of ICE shares issued. The spread is still gargantuan at 24% gross (the new deal is worth roughly $75 a share and Black Knight is trading at $60.69) which indicates the deal still has an antitrust problem and the divestiture won’t satisfy the regulators. As part of the deal, ICE has agreed to litigate with the FTC to get the deal done.

Supposedly ICE’s asking price for Empower is something like $400 million. I think ICE paid $11 billion for Ellie Mae’s which is mainly Encompass so this gives you an idea of how far valuations of mortgage assets have fallen over the past couple years.

Morning Report: Jerome Powell heads to the Hill

Vital Statistics:

S&P futures4,058 6.75
Oil (WTI)79.98-0.40
10 year government bond yield 3.94%
30 year fixed rate mortgage 6.73%

Stocks are marginally higher as we await Jerome Powell’s Humphrey-Hawkins testimony. Bonds and MBS are down.

Jerome Powell heads to the Hill this morning at 10:00 am. I don’t see the prepared remarks on the Fed’s website quite yet, so we don’t have a preview. The market’s focus will be on whether Powell still sees the “disinflationary process” continuing in the face of strong inflation numbers in January.

It will be interesting to see how much push-back Powell gets from Congress over rising rates. Republicans will probably beat him up for missing the turn in inflation while Democrats will hammer him for wanting a weaker labor market.

The Federal Trade Commission is set to sue to block the merger between Black Knight and Intercontinental Exchange. The two companies would need to divest either Encompass or Empower to get past the regulators. The problem is that the regulators probably won’t accept a spin-out into a separate company. They will have to find a strong buyer who will be able to compete with the newly merged company, and there probably aren’t many players in the industry who would be able to make it work. The merger spread is ginormous right now, so the market thinks this deal is deader than Elvis.

For-sale inventory declined in January, according to the Black Knight Mortgage Monitor. The company reported that home prices fell 0.13% MOM on a seasonally-adjusted basis, which is the smallest decline since it started about 7 months ago. Half of all mortgages are at rates of 3.5% or lower, while 2/3 are below 4%. We have a long way to go in rates before refinance activity returns, although cash-out refinances will come into play if rates fall further.

“The interplay between inventory, home prices and interest rates has been the defining characteristic of the housing market for the last two years, and this continues to be the case,” said Walden. “Today, we see buyer demand dampened under pressure from rising rates and their impact on affordability, with purchase rate-lock volumes cooling in late February. However, when rates ticked down closer to 6% early in the month, we saw a rebound of buyside demand. On the other side of the equation, we’ve seen a consistent theme of potential sellers – many with first-lien rates a full 3 percentage points below today’s offerings – pulling back from putting their homes on the market. In fact, January marked the fourth consecutive monthly decline in overall for-sale inventory according to our Collateral Analytics data, with the primary driver being a 25-month stretch of new listing volumes running below pre-pandemic averages. While demand remains weak, faltering supply has resulted in months of available inventory stagnating near 3.1 in recent months.

“Sharply rising 30-year rates in February have weakened home affordability, with nearly all major U.S. markets remaining unaffordable as compared to their own long-run averages. With 30-year rates at 6.5% in late February, it took 33.2% of the median household income to make the monthly principal and interest payments on the average home purchase. That’s up from January’s 32.4% and significantly above the 30-year average of ~24%, but still 3.5 percentage points below the 37% level reached in October 2022 when affordability hit a more than 35-year low. Between escalating inventory challenges and worsening affordability, we’re seeing some volatility in the market – just not in the form of widespread, steep price corrections.”

Congress is looking at a tax credit to incentivize builders to renovate homes in blighted areas. In many areas, the cost to renovate is more than the price the property could fetch on the market, so nothing happens. “We must continue to make it more attractive to invest in the communities that need it most,” Mr. Cardin said in a written statement. Mr. Young said the bill would help restore communities by directing private capital to low-income neighborhoods,” bridging the gap between the cost of renovation and neighborhood property values.” The bill hopes to see 500,000 new homes added to inventory.

Morning Report: The Fed Funds futures see big rate cuts in 2024

Vital Statistics:

S&P futures4,0500.50
Oil (WTI)78.48-1.20
10 year government bond yield 3.91%
30 year fixed rate mortgage 6.77%

Stocks are flat this morning on no real news. Bonds and MBS are up. It looks like the bond rally is due to fears of weakness in Europe and Treasuries are just correlating with overseas markets.

The week ahead should be relatively eventful with Jerome Powell heading to the Hill for his Humphrey-Hawkins testimony. We will also get the jobs report on Friday. It will be interesting to see whether Powell starts to get some static from lawmakers on overshooting. My guess is that Congress will probably leave him alone as long as the labor market is strong.

I compared the economy of today versus the late 1960s, and I think the similarities are pretty striking. The big question is whether you can have a recession when the labor market is super-strong. The answer may surprise you. It also gives us a template for this year and next.

This article is on my substack: The Weekly Tearsheet. It is meant as a companion to this blog where I do deeper dives into some of the weekly data or other things going on in the markets. I hope you like it and consider subscribing.

The March Fed Funds futures are now handicapping a 30% chance of a 50 basis point hike. The CME has introduced the 2024 futures as well, which see a December 2024 Fed Funds rate of 4.00% – 4.25% as the most likely outcome next year.

The homebuilders are under pressure this morning as J.P. Morgan downgraded KB Home and D.R. Horton based on valuation. It wasn’t all glum however as Meritage was upgraded to Overweight from neutral.

The homebuilders are the classic early-stage cyclical. The timing isn’t right yet – we have to wait for rate cuts – but we are getting close.

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Morning Report: The services economy expands

Vital Statistics:

S&P futures3,997 12.50
Oil (WTI)77.46-0.70
10 year government bond yield 3.99%
30 year fixed rate mortgage 6.81%

Stocks are higher this morning despite more hawkish talk from central bankers. Bonds and MBS are flat.

The services economy expanded in February. “Business Survey Committee respondents indicated that they are mostly positive about business conditions. Suppliers continue to improve their capacity and logistics, as evidenced by faster deliveries. The employment picture has improved for some industries, despite the tight labor market. Several industries reported continued downsizing.”

The supplier deliveries index hit the fastest level since 2009, indicating that supply chain issues are mainly in the rear view mirror. The prices index declined, however it is still elevated. One respondent in IT said: “The current dynamics in the marketplace are such that it is getting harder to reduce costs. Most industries are being pinched by inflation and more expensive labor markets. Before, cost reduction was the goal; it’s now cost avoidance. That said, since we’re not able to reduce cost to maintain margins, we have to reduce the employee base more aggressively to achieve margins.”

Fed Governor Christopher Waller sounded hawkish in remarks yesterday: “I would be very pleased if the data we receive on inflation and the labor market this month show signs of moderation,” Fed governor Christopher Waller said in remarks posted on the Fed’s website. “But wishful thinking is not a substitute for hard evidence in the form of economic data. After seeing promising signs of progress, we cannot risk a revival of inflation.”

Nonfarm productivity rose 1.7% in the fourth quarter, according to BLS. This is a big downward revision from the initial 3% estimate. Output was revised downward while hours worked was revised upward. This is generally bad news for inflation, however we are talking about data that is getting pretty far in the past so I doubt it will influence the Fed all that much.

Unit labor costs rose 3.2%, which was driven by a 4.9% increase in compensation and a 1.7% increase in productivity. Manufacturing sector productivity declined 2.7%.

Fannie Mae updated its guidance on appraisals. The use of third-party data and models may now be used in some circumstances in lieu of an on-site appraisal. Fannie is changing the language from “appraisal waiver” to “value acceptance.” This should be good news for companies like Clear Capital who use technology to conduct valuations. DU will implement these changes on April 15.

UWM Corp (the parent of United Wholesale) reported fourth quarter numbers. Originations came in at $25.1 billion in the fourth quarter versus $33.5 billion in the third quarter and $55.2 billion a year ago. Gain on sale margins were more or less flat with Q3 at 51 bps.

The guidance for Q1 is for volume to come in between $16 and $23 billion, with gain on sale between 75 and 100 bps. This should translate into higher production revenue despite the drop in volume.

The Street sees Q1 earnings at breakeven and full year 2023 EPS at $0.20. Not sure how they continue to pay the $0.10 quarterly dividend. The stock yields 9.4%.

If you compare UWM’s numbers to Rocket’s it shows the vulnerability of Rocket’s model in a purchase environment. Rocket’s volumes were down much more dramatically, which shows it can dominate in a refi environment. Brokers, who are much closer to real estate agents, tend to capture more of the purchase business. You will ask your realtor for a lender recommendation in general. It will be interesting to see of Rocket’s ancillary services like Rocket Money will be able to capture some of that purchase business.

Morning Report: Prices jump in the latest ISM Manufacturing Report

Vital Statistics:

S&P futures3,967-7.00
Oil (WTI)76.52-0.53
10 year government bond yield 3.96%
30 year fixed rate mortgage 6.68%

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

The manufacturing economy improved in February, however it has contracted for the third consecutive month. New Orders and production contracted. Unfortunately, prices increased again which will concern the Fed. This will probably mean that February CPI and PPI reports will be disappointing.

“The U.S. manufacturing sector again contracted, with the Manufacturing PMI® improving marginally over the previous month. With Business Survey Committee panelists reporting softening new order rates over the previous nine months, the February composite index reading reflects companies continuing to slow outputs to better match demand for the first half of 2023 and prepare for growth in the second half of the year. New order rates remain sluggish due to buyer and supplier disagreements regarding price levels and delivery lead times; the index increase suggests progress in February. Panelists’ companies continue to attempt to maintain head-count levels through the projected slow first half of the year in preparation for a stronger performance in the second half.”

Rocket reported an 82% drop YOY drop in revenues during the fourth quarter of 2022. Origination volumes fell 75% YOY to $19 billion. Gain on sale margins also contracted to 2.17% from 2.8%. Unexpectedly high demand for the company’s promotional home purchase product was a driver of the lower margins.

“Last year marked a period of transformation for Rocket. We right-sized our business to respond to a challenging market; we also made key investments to serve our clients better on every step of their home ownership journey,” said Jay Farner, CEO of Rocket Companies. “With foundational pieces of our client engagement program in place, we are focused on expanding our top of funnel, lifting conversion and lowering our client acquisition cost, with the ultimate goal of growing our purchase market share and extending client lifetime value.”

Mortgage applications fell 5.7% last week as purchases fell 6% and refis fell 3%. The uptick in bond yields over the past few weeks drove the decrease. “The 30-year fixed rate increased to 6.71 percent last week, the highest rate since November 2022, which drove a 6 percent drop in applications. After a brief revival in application activity in January when mortgage rates dropped to 6.2 percent, there has now been three straight weeks of declines in applications as mortgage rates have jumped 50 basis points over the past month,” said Joel Kan, MBA’s Vice President and Deputy Chief Economist. “Data on inflation, employment, and economic activity have signaled that inflation may not be cooling as quickly as anticipated, which continues to put upward pressure on rates. Both purchase and refinance applications declined last week, with purchase index at a 28-year low for a second consecutive week. Purchase applications were 44 percent lower than a year ago, as homebuyers again retreat to the sidelines as higher rates crimp affordability. Refinance applications account for less than a third of all applications and remained more than 70 percent behind last year’s pace, as a majority of homeowners are already locked into lower rates.”  

The yield curve continues to invert, with the 10s-2s spread at -89 basis points. The last time we were at these levels was during the Volcker tightening regime during the early 1980s.

Construction spending fell 0.1% MOM and rose 5.7% YOY, according to the Census Bureau. Private residential construction fell 0.6% MOM and 3.9% YOY. There is a big divergence between multifamily, which is up 20.6% YOY and single-family which fell 18.4%. That said, single family construction is 3x the value of multi-family.

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