What happened last week?
Overview
Mortgage backed securities (MBS) lost 25 basis points (BPS) from last Friday’s close which caused fixed mortgage rates to move slightly higher from the prior week.
The biggest economic event was the European Central Bank meeting where they left their key interest rate alone but made changes to their asset purchase program. Overall, our domestic data was once again fairly strong.
Domestic Flavor
Productivity: The headline Non-Farm Productivity grew at 3.1% in the 3rd quarter which matches the pace of the 2nd quarter but fell short of market expectations of 3.3%. The reason for the miss vs estimates?
Labor: Unit Labor Costs jumped 0.7% which was more than double the market estimates of 0.3%.
International Trade (AKA Trade Balance): For October this was very close to market expectations (-$42.6B vs estimates of -$41.8B). Our trade deficit widened from September’s level of -$36.2B as our strong dollar slowed down our exports.
Factory Orders: Following the same trend as strong ISM Manufacturing, U.S. Factory Orders rose 2.7% in October, just edging out estimates of 2.6%. September was revised upward from 0.3% to 0.6% which is a significant improvement. Factory Orders is a measure of both durable and non-durable orders. The Durable Goods portion rose by 4.6% which is very strong.
Consumer Sentiment: The University of Michigan’s Consumer Sentiment Index for December (preliminary, will be revised) came in much stronger than expected at 98.0 vs estimates of 94.5 as the sentiment continues to improve after the election.
Across the Pond
European Central Bank (ECB): The ECB meeting sucked all of the oxygen out of the room. Did they give the markets a “dovish taper” or a “hawkish easing”? While they left their key interest rate unchanged at 0.0%, their policy statement did shift in terms of their bond purchase program. They stated that they would keep the current 80B bond buying program in place until March 2017, which is when it was supposed to end. But then they are extending it out to December 2017 but at a slower pace, dropping from 80B down to 60B per month.
So, there was kind of an extension and kind of a taper too.
Also, since they can’t find enough bonds to purchase that meet their current standards, they are simply going to lower their threshold of which types and durations (maturity) of bonds that they can buy. They can now buy bonds below the deposit rate and even with 1 year left (for example a 10 year bond that has only 1 year left before maturity).
Of note is that in Draghi’s responses to live questions, he reiterated several times that just because there is a new December 2017 end date, it doesn’t mean that the bond program will end then. He wanted to make sure that the markets understand that it is really “open ended” just like the March 2017 deadline that has been extended.
What’s on the agenda for this week?
Overview
The bond market is basically land-locked ahead of the Fed meeting on Wednesday. WTI Oil is a very important story. If it can make a real run at $55, then MBS will lose some pricing. In order for you to see any meaningful improvement in pricing this week, the Fed will need to shock the markets by not raising rates this week.
Three Things
The three things that have the greatest ability to impact pricing this week are: (1) The Fed, (2) Retail Sales/Domestic Data and (3) Oil.
(1) The Fed: The much anticipated December Fed meeting is finally approaching. At this meeting, not only will we get their policy statement but also their economic projections (dot plot chart) and a live press conference with Janet Yellen. The market is widely expecting a 1/4 rate hike but if the Fed either does not hike rates or hikes rates more than a 1/4 point, it will cause a lot of volatility for MBS.
(2) Domestic Data: There is a large plate of economic data this week, including PPI and CPI but Retail Sales is the most important of the week.
(3) Texas Tea, Black Gold: WTI Oil is now above $53 as Saudi Arabia says that they will “do whatever” it takes to get production levels lower.
Treasury Auctions
12/12 3 year and 10 year notes
12/13 30 year bond