All Things in Moderation

Some labor market numbers this morning. Initial Jobless Claims fell to 276,000, a great number. That said, the final revision to productivity for the first quarter is in, and it fell to -3.1%. Unit Labor Costs rose 6.7%.

There is a definite “risk on” feel to the market this morning after Mario Draghi committed to keep QE until at least September 2016. He also warned bond investors to expect more volatility, which is also depressing bonds worldwide. Peripheral European bonds (the nice term for the PIIGS) are rallying, while the Northern European bonds sell off. The German Bund yield is 80 basis points – hard to believe it was at 7 basis points a couple months ago. The sell-off in G7 debt is spilling over to US Treasuries which are trading at 2.32%, a six month high.

The trade deficit narrowed in May as the West Coast port strike ended. This could add a small boost to Q2 GDP, although no one expects a Q2 / Q3 rebound of 4%-5% like we had last year.

The ISM Non-Manufacturing Index fell to 55.7 from 57.8 in May. This index level would typically be associated with GDP growth around 3%.

Mortgage applications fell last week by 7.6% as purchases fell 3% and refis fell 11.5%. Last week was shortened by the Memorial Day holiday, so don’t read too much into that number.

The ADP Employment Change index showed 201,000 jobs were created in May. We will get the official jobs report on Friday. The Street is forecasting 227,000 jobs were created in May. I can’t see Friday’s jobs report being market-moving unless it is unusually strong. That said, we have the first Greek deadline on Friday as well, so bonds could be in for a bumpy ride regardless. Manufacturing jobs contracted for the third month in a row, while construction jobs (a sort of proxy for housing) increased by 27,000. Construction employment levels haven’t returned to pre-crisis levels yet, but they are slowly getting back.

Home prices rose 6.8% year-over-year in April, according to CoreLogic. They remain 9% below their April 2006 peak. Some states are back to pre-crisis levels: Texas, Tennessee, New York (?!). Nevada, Florida, and Rhode Island are still around 30% below peak levels. The New York number doesn’t make a lot of sense, unless Manhattan real estate is really influencing the numbers. CT and NJ are 25% and 22% below peak levels, respectively. California is down 10.6% from the peak levels.

Stocks are lower this morning as European stocks and bond fall on some strong inflationary numbers. US Treasuries and MBS are lower as well.

Looks like we have dueling proposals to address the Greek situation. The parties are still a ways away from agreeing to anything.

The ISM New York fell to 54 from 58 last month. Factory orders fell 0.4% in April.

Economic Optimism fell to 48.1 from 49.7, according to IBD / TIPP. A reading of 50 is considered neutral, so consumers still feel slightly depressed about the state of the economy. If you dig into the data, the mood about the economy in general is somewhat negative, people’s personal financial situation are slightly positive, and their view of government economic policy is highly negative.

May auto sales are coming better than expected. Ford is still negative, while Chrysler Fiat is up small. GM was up 3%. Surprisingly, this is the best May in 8 years. That said, with the average age of a US car at 11.4 years, I guess the comps are pretty easy.

An interesting stat demonstrates the lack of starter homes on the market. 10 years ago, about a quarter of new homes had 3 or more bathrooms. Today, that number is 36%. The average size of a new home has increased by something like 140 square feet since the crisis. If you look at the homebuilders, Toll Brothers has been seeing all the action, while the more diversified builders like D.R. Horton and Pulte are only recently beginning to focus on the first time homebuyer. Here are all sorts of fun facts about new construction, courtesy of the Census Bureau. This speaks to both sides of the income inequality debate that has been raging in Washington. If you are an aging baby boomer with assets, QE has been very good to you. If you are a Millennial, the results are mixed at best. You had a very narrow window to pick up a bargain in the real estate market and it closed very quickly. Now house prices are again over their skis relative to incomes. In fact, Bank of America is expecting slightly negative house price growth in 2017-2019 as income growth fails to materialize. What is a Millennial with a bunch of student loan debt to do? Go to Atlanta, Dallas, or Houston.

Stocks are higher this morning as Europe and Greece work towards a deal. Bonds and MBS are flat.

Personal Income rose 0.4% in April, ahead of the 0.3% estimate, but personal spending was flat as people used income gains to pay down debt. The year-over-year growth rate is the lowest in 5 years.

The core PCE index (the Fed’s preferred measure of inflation) rose 0.1% in April and is up 1.2% year over year. Low inflation remains a persistent thorn in the Fed’s side and will provide a ready excuse to postpone rate normalization.

Construction spending rose 2.2% in April, which came in well above expectations. March was revised upward from -0.6% to +0.5%. These are month-over-month numbers – on a year over year basis, construction is up 4.8%. Residential construction continues to lag.

The ISM Manufacturing Index rose to 52.8 from 51.5 in April. The manufacturing economy continues to perform relatively well.

Greece owes the IMF 300 million this Friday, and as of now they have no way to pay for it. Greece is demanding that the ECB and IMF recognize that Greece has shifted to the left, however so far Europe isn’t budging. Between the Greek saga and the jobs report on Friday, bonds could exhibit some real volatility this week.

 Stocks are lower after first quarter GDP was revised downward. Bonds and MBS are up.

The second revision to first quarter GDP came in at -0.7%, a little better than expected. The port strike and a harsh winter are affecting the results somewhat, so take the number with a grain of salt. There are also questions regarding the seasonal adjustments BEA puts on GDP data – the first quarter has been unusually weak the past two years.

Personal consumption came in at +1.8%, a small drop from the first revision and a touch lower than expected. The headline inflation number was negative, however the core was up 0.8%. Inflation is still running below the Fed’s target of 2%.

In other economic data, the University of Michigan Consumer Sentiment survey improved in May to 90.7 from 88.6. The Chicago Purchasing Manager Index fell.

Wall Street is a young person’s game for the most part – by the time you are in your 30s you are old and if you are in your 40s, you are a senior citizen. Right now, Wall Street is staffed with people who have never seen a rate hike. I keep saying it, but the stock market is assigning a 100% probability that the Fed can raise rates without anyone blowing up. The last 3 times rates rose, we blew up the MBS market, the stock market and the residential real estate market. And we have a sovereign debt bubble on our hands right now.

Stocks are lower this morning on overseas weakness. Bonds and MBS are flat.

Pending Home Sales rose 3.4% in April, and reached their highest level in 9 years, according to the NAR. Good news for originators focused on the purchase business. After a weak start to the year, sales in the Northeast and the Midwest picked up smartly. Sales in the West were almost flat. NAR expects to see existing home sales come in at 5.24 million in 2015, and the median house price to rise 6.7%. This is ALL inventory-driven, and these increases are vulnerable if wage inflation doesn’t pick up soon. The ratio of the median house price to median income has topped 4x and is already well above its historical norm of 3.15x – 3.55x. At the height of the bubble, the ratio hit 4.8x.

Initial Jobless Claims came in at 282k, the 12th straight week below 300k. A 300k level in initial jobless claims is usually associated with strong economies. People who have jobs are definitely not losing them, however the long-term unemployed and the involuntarily employed part-time are still trying to return. I still think you won’t see meaningful moves out of the Fed until we start seeing wage inflation, and that has been slow to materialize.

The Bloomberg Consumer Comfort Index fell to 40.9 from 42.4 in the prior week. This is a 5 month low. The view of the state of the economy has fallen markedly over the past 5 weeks, however people’s personal financial situation has not changed. Consumers are still more reluctant to spend money, which is a result of their perception of the economy. Note that we will get the second revision to GDP tomorrow, and the Street is forecasting that Q1 GDP contracted by 0.8%.

Debt talks with Greece appear to be going nowhere still. The ECB is worried about contagion if a deal is not reached quickly. “In the absence of a quick agreement on structural implementation needs, the risk of an upward adjustment of the risk premia demanded on vulnerable euro-area sovereigns could materialize,” the ECB said in its twice-yearly Financial Stability Review published Thursday in Frankfurt. What this means is that you could see the yields on the PIIGS (Portugal, Ireland, Italy, Greece, and Spain) go one direction, while yields on Northern European debt move the other way. That said, you have to put this in perspective. The US 10-year yields 2.14% and the dollar is strengthening. The Italian 10 year yields 1.85%. Spain yields 1.82%. Ireland 1.2%, Portugal 2.52%. All in the context of Euro weakness. The yields on PIIGS debt is being artificially held down by central bank activity, and the fear is that they could begin to reflect economic reality.

Markets are flattish as Greek talks plod along in a directionless fashion. Bonds and MBS are flat.

Mortgage Applications fell for the fifth week in a row, according to the MBA. Rates rose last week so that isn’t a surprise. Purchases were up 1.2% while refis fell 3.9%.

Luxury homebuilder Toll Brothers reported this morning with EPS of 37 cents a share better than the Street estimate of 35 cents, however it looks like the beat was due to a lower-than-expected tax rate. Revenues were light as deliveries declined 1% in dollars and 2% in units. Net signed contracts rose 25% in dollars and average selling prices for net signed contracts increased 13% to $826,000. California demand is “very strong” as well as Texas and NYC. The rental business continues to grow. Overall, the high end of the market continues to perform very well.

Was Elmer Fudd correct about adjustable rate mortgages? Seemed ill advised at the time, right ahead of a rate hike – seriously, with perfect clairvoyance he told people to take out ARMs before rates went up. Well, it required a bursting of the real estate bubble to make it work out. That said, if people move often, ARMs may in fact make sense.

The Bernank doesn’t think China will have a hard landing. Given their real estate bubble, and the fact that their stock market has doubled over the past year, I find that wildly optimistic. It seems like countries that experience decades of fast growth tend to have hard landings (the US in the Great Depression, Japan now). Bull markets are a natural breeding ground for dumb debt-financed investments. Maybe the government wonks that run China’s economy can manage it through heavy-handed intervention in the markets, but it hasn’t been done before.

The Feds are on the trail of massive corruption at FIFA. You mean to tell me there might be some jiggery-pokery going on in soccer?

Venezuela has found a solution to its toilet paper shortage. Make the Bolivar note worth less than toilet paper.

Stocks are down after Spanish elections over the weekend showed a move to the left. Euro bond yields are again going different directions, with the Greek, Spanish, and Portuguese bond yields increasing, and the Northern European yields falling. US Treasuries are getting pushed lower as well.

We have a ton of economic data this morning. Durable Goods fell 0.5% in April, however when you strip out defense and transportation, they were up 0.8% and March’s -0.4% reading was revised upward to 1.0%. Capital Goods ex defense and transportation is considered to be a proxy for business capital expenditures, which has been more or less in maintenance mode since the financial crisis. We would need to see numbers around +1.5% – +2.0% to say that business is beginning to build out for expansion.

New Home Sales rose to 517k from 484k in April. Given the strong housing starts numbers last week (highest since November 2007), we might be seeing a decent 2015 after all for the homebuilders and the real estate sector in general. Given the persistent shortage of available real estate (NAR has it at 5.4 months), I find it surprising it has taken this long.

Home Prices continue to rise, according to Case-Shiller and the FHFA House Price Index. The FHFA index is up .3% in March and up 1.3% for the first quarter. This index is now within a couple percentage points of the January 2006 peak. The Case-Shiller index is up 0.95% for March and up 5% annually. The big gainers were San Francisco (up double digits again) and Denver. I suspect there is a lot of foreign money looking for a home in the big cities and that is affecting the Case-Shiller indices. The FHFA Index is narrower than Case-Shiller – it only looks at houses with a conforming mortgage, so it excludes a lot of the high end and the low end of the real estate market.

Consumer confidence rose to 95.4 in May, up slightly from April, but still below the Jan peak of 103.8. The Richmond Fed Index rose slightly, and Markit is forecasting a slight downturn in the PMI indices.

It is looking more and more like Greece is going to miss its payment to the IMF next week, unless they get more bailout funds. Here is a good FAQ of what can happen. I suspect the IMF and the ECB will come up with a way to kick the can down the road. Greek Banks are a hot mess (much of their capital consists of deferred tax assets and Greek sovereign debt) and they are completely dependent on emergency loan agreements from the ECB. If the government defaults on IMF payments, the ECB could declare the collateral backing these loans as ineligible (which makes sense since they are more or less defaulted securities), which would make the Greek banks insolvent and set the stage for a bank run. The big European banks all have at least some exposure to Greece and that will certainly be a consideration for the ECB. Public opinion supports keeping Greece in the EU so I suspect they will find a way. However if they do miss their payment and things take a turn for the worse, it is probably dollar (and bond) bullish.

Interesting article about how the Fed has consistently overshot its economic forecasts for the US economy. The market however continues to disagree with the Fed, and it has been right. Take a look at the chart below. The Fed makes new economic forecasts quarterly, and I have tracked the Fed’s forecast for 2015 GDP since the March 2013 FOMC meeting. As you can see, two years ago, they thought 2015 GDP would come in around 3.3%. They are now forecasting 2%. Given that the Street is forecasting that the second revision to Q1 GDP is going to come in at -0.9% (we’ll get that number Friday), they will probably end up taking down their forecast at the June meeting. People are starting to think the next rate hike will be a 2016 event.

Markets are lower after some hotter-than-expected inflation data. Bonds and MBS are down.

Bonds will close early today, at 2:00 pm EST. Stocks are open a full day.

The Consumer Price Index increased .1% in April, bang in line with expectations. Prices ex-food and energy rose .3% vs. the .2% forecast. On an annual basis, the CPI ex food and energy is up 1.8%.

Real Average Weekly Earnings rose 2.3% on an annualized basis in April.

Janet Yellen will be speaking at 1:00 pm EST. I can’t imagine she will say anything market moving an hour before the close on a 3-day weekend, but just be aware. Markets will become illiquid as the entire street will be on the L.I.E. by noon.

Short missive today, as there really isn’t much to talk about. Have a good Memorial Day Weekend.