Morning Report: The Fed prepares the markets for a rate cut

Vital Statistics:

 

Last Change
S&P futures 2957.5 24.1
Oil (WTI) 55.54 1.78
10 year government bond yield 2.01%
30 year fixed rate mortgage 4.10%

 

Stocks are higher this morning as interest rates fall globally. Bonds and MBS are up.

 

The Fed maintained interest rates at current levels, but signaled the willingness to cut rates if necessary:

“The Committee continues to view sustained expansion of economic activity, strong labor market conditions, and inflation near the Committee’s symmetric 2 percent objective as the most likely outcomes, but uncertainties about this outlook have increased. In light of these uncertainties and muted inflation pressures, the Committee will closely monitor the implications of incoming information for the economic outlook and will act as appropriate to sustain the expansion, with a strong labor market and inflation near its symmetric 2 percent objective.”

The dot plot showed a 30 basis point decline in the fed funds expectations. You can see the plots side by side below. The central tendency for 2019 fell by 32 basis points to 2.17%

 

Jun Mar dot plot

 

FWIW, the Fed upped their forecast for GDP, and cut their forecast for unemployment and inflation. Why that would be consistent with a potential rate cut is beyond me, but such is life in our era of Calvinball monetary policy. The decision was nearly unanimous, with only Bullard dissenting, preferring to see a 25 basis point cut. The Fed funds futures are pricing in 100% chance of a rate cut at the July meeting.

 

Bonds rallied on the announcement, although mortgage backed securities were slow to follow. We did see some reprices for the better late in the day, but nothing too dramatic. Expect mortgage rates to lag the move in bonds, as usual.

 

Initial Jobless Claims fell from 220,000 to 216,000 last week.

 

Home prices rose 3.6% YOY, the strongest acceleration in 7 months, according to Redfin. Interestingly, the only areas that dropped were the markets that rallied the most over the past few years: San Jose, New York, Los Angeles, where inventory is up smartly. Where was the fastest growth? Knoxville TN at 15%, Milwaukee WI at 15% and Camden NJ at 11%.

 

Judy Shelton is the latest potential nominee to the Fed. She is an advocate for much lower interest rates. She also favors ending the Fed’s policy of paying interest on excess reserves, which encourages banks to park money at the Fed versus lending it out.

 

Fannie and Fred are trying to do more to increase lending for manufactured homes.

Morning Report: Fed Day

Vital Statistics:

 

Last Change
S&P futures 2925 -0.25
Oil (WTI) 53.85 -0.35
10 year government bond yield 2.09%
30 year fixed rate mortgage 4.15%

 

Stocks are flat as we head into the FOMC decision, which is set for 2:00 pm. Bonds and MBS are down.

 

The disconnect between the current market forecast and the last Fed dot plot are so stark that we are probably set up for some volatility in bonds after the announcement. Be careful locking around then.

 

Donald Trump looked at ways to possibly remove Fed Head Jerome Powell. While the law protects the independence of the Central Bank, Fed Chairmen have been removed before. Jimmy Carter removed G. William Miller in the late 70s after something like 11 months on the job, and kicked him upstairs to Treasury. Note the President was unhappy with the ECB and their signals of new stimulus – it strengthened the dollar against the euro and that is a negative for US exporters.

 

Mortgage Applications fell 4% last week as purchases and refis fell by 4%. Rates rose by 2 basis points to 4.14%. “After seeing a six-week streak, mortgage rates for 30-year loans increased slightly, which led to a pullback in overall refinance activity,” said MBA Associate Vice President of Economic and Industry Forecasting Joel Kan. “Borrowers were sensitive to rising rates, but the refinance share of applications was still at its highest level since January 2018, and refinance activity was at its second-highest level this year. Government refinances actually increased last week, led by a 17 percent in VA refinance applications, while conventional refinance applications decreased 7 percent.” The refi index has rebounded to the highest level in almost 3 years:

 

MBA refinance index

 

New Jersey has tightened the requirements for nonbank servicers.

Morning Report: Fed Funds forecast and mortgage rates

Vital Statistics:

 

Last Change
S&P futures 2895.75 0.75
Oil (WTI) 51.89 -0.62
10 year government bond yield 2.11%
30 year fixed rate mortgage 4.12%

 

Stocks are flat this morning as we enter Fed week. Bonds and MBS are flat as well.

 

The big event this week will be the FOMC meeting which starts Tuesday. Given the disconnect between the market’s perception of the road ahead and the Fed’s prior forecast, something has to give. FWIW, the market is now assigning a 20% chance they will ease by 25 basis points at this meeting. By the December meeting, the market is forecasting the FOMC will cut rates either 2 or 3 times!

 

fed funds futures dec 19

 

Compare that to the March 2019 dot plot, which showed most members of the FOMC thought rates would be unchanged for the year and about 1/4 of the members wanted to see a rate hike:

 

dot plot Mar 2019

If the Fed Funds futures are correct and we are looking at a 1.5% Fed Funds rate, where will mortgage rates go? If history is any guide, probably nowhere. The last time the Fed Funds rate was around 1.5% (late Dec 2017), the 30 year fixed rate mortgage (according to the MBA) was in the low 4% range, in other words, right about here.  Long term rates have already priced in the move. MBA 30 year FRM chart:

 

MBA mortgage rate

 

Quicken Loans settled with the DOJ over false claims allegations regarding FHA origination going back to 2015. The case was dismissed and Quicken settled for $32.5 million with no admission of guilt. Quicken fought the case the entire way, and eventually narrowed it down to a tiny fraction of what the Obama Administration wanted. Quicken Vice Chairman Bill Emerson said: “I think the current HUD administration realized how faulty the previous administration’s tactics were, and frankly, as we’ve said before, we viewed them as extortionist tactics and we just could not go along with that,” Emerson said. “We know we didn’t do anything wrong and so we continued to fight, and if that somehow caused the new administration to evaluate it differently, then great.”

 

Ed Demarco discusses the ways that private capital can be drawn back into the mortgage market. First, the CFPB’s ATR and QM rules need to change to bring down the allowable DTI ratios on Fannie and Freddie loans to that of the rest of the market. This is known as the QM patch, which basically says that any loans that meet F&F criteria meet the ability to repay test. The problem is that the QM laws specify a max DTI ratio of 43% and the GSEs allow up to 50%. This gives Fan and Fred a huge advantage over other lenders. The second issue revolves around the SEC and refining the data definitions in the registration rules. Third, Fan and Fred have all sorts of mortgage performance data that is unavailable to the broader market, and leveling the playing field would mean allowing other participants to see that data. Note however that DeMarco is only looking at the issue from the standpoint of originators. Buyers of private label securities have other issues that are still unresolved, especially when the issuer of the bonds also retains servicing. There is a conflict of interest issue that must be resolved as well. I discussed this about a year ago in Housing Wire.

 

Profitability improved for independent mortgage bankers in the fist quarter of 2019. Average revenue per loan came in at $9584, while average cost per loan was $9,299, or a net gain of $285 per loan, compared to a loss of $200 a loan in the fourth quarter. It looks like mortgage bankers reported a loss in the first quarter of 2018 as well.

Morning Report: Payrolls disappoint

Vital Statistics:

 

Last Change
S&P futures 2819 14.35
Oil (WTI) 53.02 -0.46
10 year government bond yield 2.12%
30 year fixed rate mortgage 4.13%

 

Stocks are higher this morning after yesterday’s rally continued overnight. Bonds and MBS are flat.

 

Fed Chairman Jerome Powell said yesterday that the central bank was monitoring the trade tensions between China and the US and would “act appropriately” to maintain the economic expansion. Investors took this to mean that the Fed would probably cut rates this year. The stock market had its best day in 5 months, and bonds sold off a touch, although lower rates should be supported by low overseas yields and the prospect of a rate cut.

 

Donald Trump announced that he would institute tariffs on Mexican goods if the country didn’t do more to curb illegal immigration into the US. This new front in the trade war was the catalyst to push the 10 year below 2.1%. Yesterday, Republican senators warned that there was not support for tariffs in the Senate.

 

Mortgage Applications increased 1.5% last week as purchases fell 2% and refis increased 6%. “Mortgage rates dropped to their lowest level since the first week of 2018, driven by increasing concerns regarding the ongoing trade tensions with China and Mexico,” said Mike Fratantoni, MBA Senior Vice President and Chief Economist. “Some borrowers, particularly those with larger loans, jumped on the opportunity to refinance, bringing the index and average refinance loan size to their highest levels since early April. Additionally, refinances for FHA and VA loans jumped by 11 percent.”

 

Payrolls only increased by 27k last month according to the ADP Employment Report. Small firms reduced payrolls by 52,000 last month, and it looks like the majority of that was in construction. Manufacturing fell by 3,000 which might be tariff related. The service sector increased employment by 71,000 and large employers increased by 68,000. Street expectations are for a 185,000 increase in payrolls for Friday’s jobs report. Now that the Fed is out of the way, the wage growth number is no longer the focus.

Morning Report: Overseas yields hit a record low

Vital Statistics:

 

Last Change
S&P futures 2759.6 9.65
Oil (WTI) 52.61 -0.84
10 year government bond yield 2.11%
30 year fixed rate mortgage 4.13%

 

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

 

We are seeing lots of articles tying trade to rate cuts. IMO, I think the business press and politicians overestimate the effects of trade sometimes, but there is no doubt that there is a sea change in opinion. The markets are pricing in a 96% chance of a rate cut this year. Only 1 month ago, they were pricing in a 53% chance of no movement at all. Compare the forecast now versus May 3. Amazing how much sentiment has changed. The central tendency is now for 2 rate cuts (although the markets expect the Fed to hold steady at the June meeting in a couple of weeks).

 

fed funds futures

 

Is trade the driver of the change in sentiment? It plays a part, no doubt. But, the yield curve inversion has more to do with general economic malaise especially in Europe. The  German Bund (Germany’s 10 year bond) has hit a record low yield of -21 basis points. This is a big deal, and is the real culprit behind the drop in US Treasury rates. Relative value trading (in other words managers selling Bunds which pay nothing for Treasuries which pay something) is pulling US rates lower, which has inverted the yield curve. An inverted yield curve occurs when short term rates (like the 1 month T-bill) are higher than long term rates like the 10 year. The 1 month T-bill pays 2.35% while the 10 year pays 2.11%. Historically, an inverted yield curve has been a recessionary indicator, but that probably isn’t what is going on right now. I certainly don’t think the Fed imagines a recession is imminent or even a decent possibility – we will get an idea however when they release their economic projections at the June FOMC meeting.  That said, the markets see two rate cuts this year, and the dot plot will be an interesting view.  Strange to think that the Fed tightened to fight nonexistent inflation and will ease to fight a nonexistent recession, but here we are….

 

Home prices rose 1% MOM and 3.6% YOY in April, according to CoreLogic. They do see home price appreciation picking back up over the next year, and are forecasting a 4.7% increase over the next year.

Morning Report: Rates keep falling.

Vital Statistics:

 

Last Change
S&P futures 2746 -5
Oil (WTI) 54.23 0.76
10 year government bond yield 2.12%
30 year fixed rate mortgage 4.18%

 

Stocks are lower as trade fears dominate the market’s mood. Bonds and MBS are up (yields down). The 10 year hit 2.07% in the overnight session.

 

On the open, it is looking like mortgage backed securities are lagging the move in Treasuries. Prepayment speed worries are behind it. It may take a couple of days for mortgage rates to catch up.

 

The upcoming week will have a slew of important economic data, with construction spending, the ISM numbers and the jobs report on Friday. Productivity and costs will be another key number, although the Fed is more worried about a slowdown than an acceleration of inflation. After that, the Fed goes into their quiet period ahead of the FOMC meeting in two weeks.

 

Housing affordability is at its strongest in about a year, according to Black Knight Financial. The annual rate of housing inflation fell below the 25 year average of home price appreciation for the first time since 2012. 22% of median income was required to purchase the average house, which is will below the historical average of around 25%. Most of that has to do with lower interest rates, but slowing home price appreciation and rising incomes have been the drivers there.

 

According to Sentier Research, the median income in March of 2019 was $64,016. NAR has the median home price at $267,300. This puts the median house price to median income ratio at just under 4.2x. This is still elevated compared to historical numbers, but low interest rates offset the high multiple.

 

Affordability issues are driving a new business model for builders in some high-cost areas: build to rent. Toll Brothers is going to spend something like $60 million in a joint venture to build rental properties. “Renting by choice” is one of the new consumer trends, and it may not be going anywhere. The plan is to stick rental properties in planned communities that are more or less identical to neighboring properties. Why would people choose to rent? If they are worried about another housing bubble, they shouldn’t. That isn’t going to happen again for a long, long time. If they believe they need a 20% down payment, then the industry has an education job to do. If they are doing it because they want the freedom to move easily, that will probably change once they have kids.

 

Construction spending was flat in April, according to the Census Bureau. Residential was down 0.6% MOM and 11.2% YOY.

Morning Report: Tariff threats push the 10 year to 2.15% overnight.

Vital Statistics:

 

Last Change
S&P futures 2761 -29
Oil (WTI) 55.56 -0.6
10 year government bond yield 2.16%
30 year fixed rate mortgage 4.25%

 

Stocks are lower this morning after Trump threatened Mexico with 5% tariffs over illegal immigration. Bonds and MBS are up.

 

The 10 year bond is trading at 2.16 this morning, the lowest level in almost 2 years. We are seeing some action in the TBAs as the 3% FN coupons are all trading above par. We should see more pain in the servicing space as marks have to come in. If you were hoping for a good MSR mark to paper over an aggressive cut in margins, you are about to get a double-whammy.

 

Personal Incomes rose 0.5% in April versus Street expectations of a 0.3% increase. Personal Consumption rose 0.3%, again topping estimates. March’s consumption numbers were revised upward as well. The core PCE  price index (the Fed’s preferred measure of inflation) rose 1.6% YOY, which is well below their target. For those keeping score at home, the market is now pricing in a 90% probability of a rate cut this year. with a better-than 50% chance of 2 or more!

 

fed funds futures

 

Regardless of the strength in the economy, pending home sales dropped 1.5% in April. YOY contract signings fell 2%, making this the 16 consecutive month of YOY declines. Lawrence Yun highlighted the problem: a glut of expensive homes and a shortgage of low priced homes: “Home price appreciation has been the strongest on the lower-end as inventory conditions have been consistently tight on homes priced under $250,000. Price conditions are soft on the upper-end, especially in high tax states like Connecticut, New York and Illinois.” The supply of inventory for homes priced under $250,000 stood at 3.3 months in April, and homes priced $1 million and above recorded an inventory of 8.9 months in April.”  Given that a balanced market is usually around six and a half months, you can see the extremes of 3.3 months at the low end and 8.9 months at the high end.

 

Fed Vice Chair Richard Clarida gave some support to the bond market yesterday in a speech at the Economic Club of New York. “If the incoming data were to show a persistent shortfall in inflation below our 2 percent objective or were it to indicate that global economic and financial developments present a material downside risk to our baseline outlook, then these are developments that the [Federal Open Market Committee] would take into account in assessing the appropriate stance for monetary policy…..Midway through the second quarter of 2019, the U.S. economy is in a good place…By most estimates, fiscal policy played an important role in boosting growth in 2018, and I expect that fiscal policies will continue to support growth in 2019.”

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