What Happened Last Week?
Mortgage backed securities (MBS) lost 34 basis points (BPS) from last Friday’s close which caused fixed mortgage rates to move sideways to slightly higher as they traded in a very narrow range.
The breadth of the weekly channel for MBS trades was very tight. Overall, the majority of the domestic economic data was positive and it would have taken a “perfect storm” of very weaker economic data and new and/or heightened global fear for MBS to have mounted any type of rally and we simply didn’t get that “perfect storm,” so MBS values retreated for some small losses compared to the prior week.
Trapped until the Fed: The First MBS trade in September was at 103.59 and the close (last trade) from Friday was 103.64. That means MBS have netted out only 5BPS so far this month. Now, that is sideways movement!
Jobs, Jobs, Jobs: We continued to get strong jobs data.
– Labor Market Conditions Index: August’s reading was higher than expected (2.1 vs estimates of 1.3) and July was revised upward significantly (1.1 to 1.8).This index is based on a broad set of 19 components and could be sighted by the hawks as evidence of labor market improvement at next week’s FOMC.
– JOLTS:The Job Openings and Labor Turnover Survey came in at 5.753M vs market expectations of 5.301M. This is a big beat and a very large increase from the last reading (June) of 5.249M. Normally, this report does not get a lot of play by bond traders but this certainly could figure into the Fed discussions next week as Yellen has referred to this report several times recently.
– Initial Weekly Jobless Claims remained on point with the closely watched 4 week moving average still below 280K with a reading of 275.50K. The weekly reading matched market expectations with a reading of 275K.
Inflation? The Producer Price Index (PPI) was a little stronger than expected with the Headline MOM reading flat at 0.0% vs estimates of -0.1% to -0.2%. The Core PPI data was also higher than expected +0.3% vs estimates of +0.1%. YOY the data did make some gains but are well below the Fed’s “target” rate of 2%. While this is not the only inflationary gauge that the Fed looks at, it is something that could impact their ongoing rate hike discussions.
Consumer Sentiment: The preliminary reading for September was weaker than expected with a reading of 85.7 vs estimates of 91.0. While this number will be revised one more time (usually the second release is higher than the first release), this is still a disappointment.
Wholesale Inventories: The July Reading gives us our first look at the 3rd QTR and it was much weaker than expected with a reading of -0.1% vs estimates of +0.3%.
Treasury Auctions: Two big auctions hit last week with the 10-year note and more importantly, the 30-year bond auctions. Both had similar results. They both saw a very nice spike in demand (as measured by the bid-to-cover ratios). However, that increased interest in our debt came at a price where we had to pay a higher interest rate than during our last auctions.
What’s on the Agenda for this Week?
Look for MBS to test upper resistance today on the Chinese weakness and maybe make a run at secondary resistance but they will still be confined to the same near-term channel that they have all of September. Obviously, Thursday’s Fed meeting could completely change the trend line
Of course this week is all about the Fed but before we get into that…let’s take a look at the important economic releases that will hit.
The biggest data point of the week is tomorrow’s Retail Sales report which is expected to show month-over-month growth but at about half of the rate of the last print. The stronger or weaker this data is will be perceived by traders as having an impact on the Fed decision.
There will be a big dose of manufacturing data with several regional reports such as Empire (New York) and Philly, as well as Industrial Production and Capacity Utilization, but none of these typically have the gravitas to move MBS pricing.
This week’s housing data is all about new home segment with the release of the NAHB Housing Market Index, New Housing Starts and Building Permits. Again typically not the type of data that moves pricing but always interesting to see how the smallest segment of the housing market is doing.
Rounding out the data is Business Inventories which could follow the same trend as last week’s weaker than expected Wholesale Inventories and CPI which could see a very small uptick like last week’s PPI.
But this week is all about the Federal Reserve and its policy statement and interest rate decision. This meeting is not your typical meeting. First, it is not on Wednesday (as is the norm) but on Thursday. Next, there will be a live press conference with Janet Yellen afterwards and the release of their FOMC Economic Projections, which includes the FOMC’s projection for inflation and economic growth over the next 2 years and, more importantly, a breakdown of individual FOMC members’ interest rate forecasts. This last release could have a large impact on long bond trader sentiment.
Certainly, there are plenty of talking heads out there that are absolutely adamant about whether the Fed will raise rates Thursday or wait. There is no question that our domestic economic data (regardless of inflation levels) is supportive of a rate hike (almost every Federal Reserve president has said so). The issue is that there are significant concerns over global economic weakness, particularly China, that may give Fed reason to wait a little longer before they begin their tightening cycle. And that is what the market is waiting to hear.
Here are some possible scenarios:
– The Fed leaves their key interest rate alone and cites global weakness; maybe a small and temporary improvement in pricing but this is largely what the bond market has priced in. If this is the case, then their Economic Projections will take on more weight. The last time that it was released all but one FOMC member showed at least one rate hike in their own individual projections. Will that still be the case? If so, then October or December is on the table and will mitigate any major pricing improvements. If that number drops to below 50%…then MBS will have a major rally.
– The Fed tightens in the range of 0.25 to 0.50. If it is 0.50, then the market will assume that it will be the only rate hike this year. If it is below 0.50 then the market will assume that there is one more coming in December. While this is the scenario that bond traders thought would happen over a month ago, it has been largely priced out of the range of possibility. So, this would be somewhat of a surprise and MBS would sell off as a result.
Across the Pond (otherwise known as our problem children)
China: Industrial Production grew 6.1% year-over-year in August, according to the National Bureau of Statistics. While this was marginally faster than July’s 6.0% level, it compared with an already very low reading in August of 2014 and fell well below a median 6.6% forecast. In a separate story, the WSJ reported that in a survey among (some) economists, 100% of them think that China is overstating their growth rates.
There were no domestic releases today.
Tomorrow will be the most important data point of the week with Retail Sales. The market is expecting a MOM of 0.2%; it would take a reading below zero for MBS to get any traction. There is also the Empire Manufacturing Survey, Industrial Production and Capacity Utilization and Business Inventories.