What happened last week?
Overview
Mortgage backed securities (MBS) lost 201 basis points (BPS) from last Friday’s close which caused fixed mortgage rates to move higher for the week and brought mortgage rates to levels not seen since January 15th.
It was a holiday-shortened trading session (no bond trades on Friday for Veterans Day). It was a light week for domestic economic data as there were no major economic releases with the gravitas to impact pricing/rates.
The Big Story: the Trump Victory
MBS sold off (meaning higher rates) in direct response to the election. Long bond traders now know that in 2017 we will have a Senate, House and Executive Office all controlled by Republicans. But what does that mean? It can be summed up in one word. Growth. For bonds, growth = inflation and inflation = lower rate of returns.
Long bond traders view this as very positive for economic growth and growth is really a form of inflation and bonds hate inflation. The economic growth may be accelerated due to: lower tax rates, repatriation of corporate cash parked overseas, regulatory reform, a national budget, etc. The wild card that we are waiting to see moving forward is the anti-trade rhetoric which can be negative for the economy. The market also feels that the Fed will be free to act in December (with a rate hike) and there is going to be growing speculation on the future of Fed Chair Janet Yellen.
What’s on the agenda for this week?
Overview
Do not listen to those speaking about a rebound…a rebound infers that something is oversold. MBS are not oversold…they are progressing lower as they should in response to expectations of higher growth. This is a long overdue secular shift that has been waiting for 5 years to begin. This will be a very key week and MBS pricing is expected to be worse at the end of the week compared to the open today. The only shot for MBS to stabilize (temporarily) is for Yellen and company to pour every ounce of “dovish” commentary that they can into the marketplace this week.
Three Things
The three areas that have the greatest ability to impact pricing this week are: (1) Trump correction, (2) The Talking Fed and (3) Domestic Flavor.
(1) The Trump Correction: We are just at the beginning of the “Great Unwinding” in the bond market. Last week saw a pronounced sell-off in bonds as bond traders see a higher potential for economic growth under Trump. As his policies are firmed up and as he adds staff in key areas, the bond market will continue to react and to sell off.
(2) The Talking Fed: There is a glut of Fed speak this week with the focus on Thursday’s testimony by Janet Yellen. While the MBS market has sold off…we still do not have a December rate hike priced in. So, any “hawkish” commentary could pressure MBS and even cause some traders to add a higher probability of rate hikes in early 2017 as well.
11/14 Robert Kaplan, Jeffrey Lacker and John Williams
11/15 Eric Rosengren and Stanley Fischer
11/16 James Bullard, Neel Kashkari and Patrick Harker
11/17 William Dudley and Janet Yellen
11/18 James Bullard, Esther George and Robert Kaplan
(3) Domestic Flavor: There is no economic data today, but on Tuesday will be the most important report of the week – Retail Sales. PPI and CPI will also get a lot of attention but really, these reports will have much less of an impact than they historically have as traders are focusing on the prospects of high growth in 2017 and not so much about where we were a month or two ago.
Housing
These reports won’t have an impact on pricing but experts always pay close attention to the state of our housing market. This week will be Home Builders Sentiment, Housing Starts, Building Permits and Mortgage Applications.
Market Wrap-up
Overview
As expected, MBS continued to sell off. There were no economic releases today. MBS sold off as part of the “Great Unwinding” that has only just begun. It’s difficult to call a bottom in a falling market when you are trading below all the normal technical indicators but just like Thursday it has held.
Domestic Flavor
On Deck for Tomorrow: Retail Sales, Import and Export Prices and Business Inventories. Note, we are switching from the 3.0 to the 3.50 coupon as our benchmark with tomorrow’s open.
The Talking Fed
Dallas Fed President Robert Kaplan said that he will keep his forecast at 2% growth for 2017 for the time being, saying, “In the near future it would be appropriate for us to remove some accommodation.” Keep in mind that he has said that he would have supported a rate increase at the last two Fed meetings. He also said at an economic forum that they need “intelligent’ fiscal policy” and that “We are under-invested in infrastructure.” But, he said, investments should not just bring forward future spending to the present or simply “balloon” the national debt. President-elect Donald Trump has promised infrastructure spending to create roads, bridges and tunnels that are “second to none.”
Jeffrey Lacker and John Williams are also scheduled to speak today.