Learn from the Past
Mortgage backed securities (MBS) lost 33 basis points (BPS) from last Friday’s close which caused fixed mortgage rates to move higher compared to the previous week.
It was a very big week for economic data with stronger than expected 4th quarter GDP and very solid manufacturing and income readings. MBS moved lower (higher mortgage rates) due to some perceived positive momentum in U.S./China trade talks, strong economic data and the Federal reserve which continued to make it clear that they are open to raising rates if economic growth continues (the markets had discounted any interest rate hikes for all of 2019).
GDP: The Preliminary (will be revised several times) GDP report was issued for the 4th quarter which was delayed due to the government shutdown, and it came in much better than expected with a solid growth rate of 2.6% vs. estimates in the 1.8% to 2.3% range. 4th quarter 2017 to 4th quarter 2018 is now 3.1% and the calendar year is at 2.9%. Either way you slice it, it’s a solid 3.0% growth rate for 2018.
Inflation Nation: The Fed’s primary measure of inflation was released and it remained just a smidge below their 2% target rate with a reading of 1.9%. The December Personal Income was more than double the market estimates (1.0% vs. estimates of 0.4%). Personal Spending for December was -0.5% vs. estimates of 0.3%. No one believes that number as it coincides with the same department that released the awful Retail Sales report for that same period which has been proven to be wrong by every possible metric available.
Manufacturing: The bellwether Chicago PMI was a blockbuster, coming in at 64.7 vs. estimates of 57.0. Any reading above 50 is expansionary and readings above 60 are extremely strong. The February ISM Manufacturing reading was lighter than expected (54.2 vs. estimates of 55.5) and a pull-back from January’s level of 56.6. But any reading above 50.0 is expansionary.
Taking it to the House: Weekly Mortgage Applications increased by 5.3%. Purchase applications were up 6.0% and Refinances were up 5.0%. January Pending Home Sales were much better than expected with a nice gain of 4.6% vs. estimates of only 0.4%.
The Talking Fed
Fed Chair Jerome Powell gave his semi-annual monetary report to the Senate and House committees on Tuesday and Wednesday. There were really no surprises as the Fed Chair basically reminded everyone that we are at or near full employment and are at nor near their target interest rate and that the economy is growing at a moderate pace. The only two points that he made that were interesting (but did not move bond prices) were:
– “The idea that deficits don’t matter for countries that can borrow in their own currency I think is just wrong,” which was a jab at the MMT “Modern Monetary Theory” that the government can just borrow at will to fund Social Security and free college for everyone, etc.
– “We will continue to use our administered rates to control the policy rate, with an ample supply of reserves so that active management of reserves is not required. Having made this decision, the Committee can now evaluate the appropriate timing and approach for the end of balance sheet runoff,” which follows the same trend as recent remarks about lightening up on the pace of shrinking the balance sheet.
What’s on the Agenda for this Week?
Expect backend pricing to be lower on Friday afternoon than it is for the Monday open. The only thing that could save that is either a breakdown in the China/US trade talks and/or a big downward miss to the YOY change in Average Hourly Earnings to below 3%. Barring that, look for the 50 day moving average to behave like a ceiling of resistance instead of the floor of support that it has been for almost four months.
The three areas that have the greatest ability to impact backend pricing this week are: (1) Central Bank Palooza, (2) Jobs and (3) Trade War.
(1) Central Bank Palooza: The spotlight will be on Thursday’s European Central Bank Interest Rate Decision and Policy statement as well as a live press conference with ECB President Mario Draghi. While the markets are not expecting any real policy change at this juncture, they are looking for more commentary/direction on the wind-down of their massive bond buying program and economic contraction. There will also be the Bank of Canada’s rate decision which comes after last week’s negative MOM GDP report. Our own Federal Reserve will release their Beige Book which contains the reports from all 12 Fed districts and is used as the basis for this March’s Federal Reserve meeting. Australia will also issue an interest rate decision.
(2) Jobs: There is a ton of jobs related data (ADP Private Payrolls, ISM Services, Challenger Grey Job Cuts, Unit Labor Costs, Initial Weekly Claims, Unemployment Rate, Non Farm Payrolls and Average Hourly Wages). Off all of those reports, it will be Friday’s YOY Average Hourly Wages that gets the most attention from long bond traders. It is expected to rise again, this time to 3.3%. Once it starts getting close to the 3.5%, it becomes VERY dangerous for bond prices.
(3) Trade War: Whether it is from leaks, legitimate sources or just speculation, the “buzz” is that the U.S. and China are in the “final stages” of talks which could result in a joint signing in Florida by the end of March. The bond market will react negatively (worse pricing) to any confirmed stories of progress and positively if there appears to be no deal for a while.
MBS were expected to test the 50 day moving average as a resistance level and MBS certainly have. There was not any real economic news with the gravitas to move pricing in a meaningful way today. The markets seem to be experiencing “fatigue” over the never ending Trade noise and are awaiting an official announcement before making any moves lower.
Construction Spending: The delayed (due to government shutdown) December Construction Spending data was issued and it was lighter than expected, contracting by -0.6% vs. estimates calling for a gain of 0.2%.
On Deck for Tomorrow: ISM Non Manufacturing, New Home Sales, Treasury Budget.
Across the Pond
Eurozone: PPI YOY 3.0% vs. estimates of 2.9%.