What happened last week?
Mortgage backed securities (MBS) gained 25 basis points (BPS) from last Friday’s close which caused fixed mortgage rates to move lower from the prior week.
It was, once again, all overseas events that kept U.S. Bond yields low as uncertainty over the near and longer term impact of the Brexit and the bail out of an Italian bank kept foreign funds flowing into bonds.
Jobs, Jobs, Jobs
There was a ton of jobs related data last week that culminated in Big Jobs Friday. The overall theme of all of the different jobs report was strength and (under normal circumstances) would be very negative for bonds (higher mortgage rates). But global concern has kept our rates low.
Challenger Job Cuts: Announced Corporate Layoffs hit 38.5K which is one of the lowest reading in the last two years.
ADP Private Payrolls: Were much stronger than expected (172K vs estimates of 159K). Last month, the reading was revised lower (from 173K down to 168K).
Jobless Claims: This weekly reading continues to show amazing strength and is once again near 42 year lows. Last week’s reading was much lower than expectations (254K vs estimates of 270K) and the more closely watched 4 week moving average dropped again, this time to 264.75K.
Big Jobs Friday:
June Non-Farm Payrolls 287K vs estimates of 175K; this is much stronger than expected and negative for pricing.
May Non-Farm Payrolls revised from 38K down to 11K. This is positive for MBS.
April Non-Farm Payrolls revised upward from 123K to 144K. This is negative for MBS.
Average Hourly Earnings (Month over Month) gained +0.1% vs est of +0.2%, this is Neutral for MBS.
Average Hourly Earnings (Year over Year) moved up to $25.61 which is 2.6% from last year – The Fed watches this number carefully. This is Negative for MBS.
The Unemployment Rate moved up from 4.7% to 4.9%, the market expected 4.8%. This is neutral for MBS but an encouraging sign as the reason for the uptick is that more people are entering the work force (Participation Rate increased to 62.7%) as the economy has strengthened and wages are attracting workers again.
How bond traders interpreted this: They feel it is a very solid report and given the revisions to April and May it appears that May is really just a “hiccup” and obviously not a trend as June’s data was very strong. The YOY Average Hourly Wages are now at 2.6% and keeps ticking upward. This report showed both wage pressure (inflation) and large net jobs growth. But bond traders don’t feel that by itself, that it can cause the Fed to consider increasing rates in September (although it would be great for small businesses and the economy if they did).
What’s on the agenda for this week?
Mortgage rates are going to be VERY low for a very long time. But the question is: Where is the top? And I think we hit it (the top of MBS pricing = the low for rates) on last Tuesday’s intra-day high. By no means expect a sell off today or this week of any magnitude. There has been a bond coupon roll over, the S&P 500 is at a new all-time high and there is less uncertainty about the Brexit now that we know who the PM will be. None of that adds up to another rally.
The Big Three
The three top items that will be getting the attention of Bond traders this week are: (1) Central Bank Action, (2) Brexit news and (3) the Talking Fed. Notice that the top three items DO NOT include our Treasury auctions or economic data.
(1) Central Bank Action: The Bank of Canada will announce their latest interest rate and policy on Wednesday but it’s Thursday’s Bank of England action that will really drive markets, as they may vote to lower rates in the wake of the Brexit arrangements. Also, the Bank of Japan is said to be ready to announce new “helicopter” money this week in the form of more asset purchases and potential rate decreases.
(2) Brexit: The markets have been eagerly waiting to see when Great Britain would elect a new Prime Minister as the divorce proceedings with the EU cannot begin until they have a new leader. And this morning it appears that we our answer as the sweet 16 bracket was narrowed down to two and now…one. The leading contender Andrea Leadsom has dropped out this morning leaving only British Home Secretary Theresa May left in the race. This removes some uncertainty in the marketplace as the selection of a PM could have dragged on to September.
(3) The Talking Fed: The Fed’s Beige Book will be on Wednesday which will give each of the 12 districts a chance to weigh in on their own regional growth but there will also be a slew of speeches this week:
07/11 Esther George and Loretta Mester
07/12 James Bullard, Neel Kashkari and Loretta Mester
07/13 Robert Kaplan and Patrick Harker
07/14 James Bullard, Dennis Lockhart, Esther George and Robert Kaplan
07/15 Neel Kashkari
Treasury Auctions This Week
07/11 3 year note
07/12 10 year note
07/13 30 year bond – most important for our pricing.
Even though the Big Three above will be the main driving force in bond demand this week, this week is actually have a very robust domestic economic calendar with very heady reports like Retail Sales, PPI and CPI, Wholesale and Business Inventories, JOLTS and Industrial Production to name a few.
Across the Pond
China: Their Producer Price Index YOY was a little weaker than expected (-2.6% vs estimates of -2.5%) but their Consumer Price Index YOY was higher than expected (1.9% vs estimates of 1.8%).
So, new record high for the stock market, MBS must have sold off, right? No. They are not related right now.
There certainly was a lot out there that should have pressured MBS more as Treasury Yields rose, the stock market hit a new record high, Great Britain has a new PM, etc. But our support level is just too strong right now.
Look, mortgage rates are going to be VERY low for a very long time. But the question is: Where is the top? It’s believed the top of MBS pricing was hit (top of MBS pricing = the low for rates) on last Tuesday’s intra-day high.
Jobs, Jobs, Jobs: The June Labor Market Conditions Index improved but still was in the negative column. The May reading was revised upward from -4.8 to -3.6 and June came in at -1.9. Given the strength of Friday’s jobs report, it makes this index look pretty useless.
Treasury Auction. We kicked off three straight days with the 3 year note. Given that demand has spiked for anything U.S. backed, you would expect a strong auction and that’s just what we got. $24B went off at a high yield of 0.765% which was the lowest since 2013. The bid to cover ratio was also strong at 2.69. This had no impact on pricing.
The Talking Fed:Kansas City Federal Reserve President Esther George warned that keeping rates too low for too long is not good policy. She said, “Keeping rates too low can create risks.” If you recall, she was the lone vote against keeping rates unchanged two Fed meetings ago.
On Deck for Tomorrow: Wholesale Inventories, JOLTS, and the 10 year Treasury Note Auction.