What happened last week?
Overview
Mortgage backed securities (MBS) gained 53 basis points (BPS) from last Friday’s close which caused fixed mortgage rates to move lower from the prior week.
It was a holiday-shortened week (the bond market was closed President’s Day) and a very light week for economic data. The stock market continued to rally and so did long term bonds. There was another round of Federal Reserve members making very hawkish statements in an attempt to get the market to price in the potential for a March rate hike, but it simply didn’t work. MBS received the most momentum due to a spike in uncertainty over the future of the Eurozone.
Across the Pond
Euro systematic risk (France, Italy, Spain and to a lesser extent Germany) have caused German bund yields to contract (lower rates) as investors seek a safe haven as risk over elections weigh on their positions as polling data show strong support in those countries for candidates that support some sort of Eurozone reform.
The Talking Fed
Dallas Fed President Robert Kaplan (voting member) said that the Fed needs to “normalize” rates “sooner rather than later.” This is nothing new for him as he was very hawkish for most of 2016 but he wasn’t a voting member then.
Fed Board member Jerome Powell (voting member) was asked whether a rate hike is “on the table” for a March 14-15 policy meeting. Powell told reporters “Yes,” adding, “It will be appropriate to gradually raise interest rates, including fairly soon,” if the economy carries on roughly as it is currently.
The Minutes from the last FOMC meeting were released on Wednesday (you can read them here) and as expected, they were a little “hawkish.” But there was really nothing too new from the original balance sheet. It was a mixed bag with most participants seeing a rate hike “fairly soon” if the economy keeps on track but warned that the expected boost (by the stock market) in the economy due to lower tax rates or new fiscal stimulus may never materialize as these programs are unknown and may not happen in the near term.
What’s on the agenda for this week?
Overview
MBS cannot sustain levels over and above Friday’s highs. As a result, there will be a very slight technical pull back today. But for the week, MBS are expected to return the same channel as for the past several weeks. This means a retraction from last week pricing levels but not real change in the average rate over the past month. A lot of volatility is expected due to the Three Things below.
Three Things
The three areas that will receive the most attention from long bond traders and therefore have the greatest potential to impact pricing are: (1) The Talking Fed, (2) Trump and (3) Domestic Flavor.
(1) The Talking Fed:
There is no question that the majority of voting members and even Janet Yellen herself have attempted to get the markets to move towards a “live” March Fed meeting. But so far, their lip-service has not worked. This is their last week to make an effort to move the needle for a rate expectation as we enter a “blackout” period next week for the Fed.
We get their Beige Book on Wednesday which takes all 12 Federal Reserve Districts’ anecdotal reports and combines them specifically to be reviewed and used in their interest rate decision.
02/28 Esther George, John Williams and James Bullard
02/29 Robert Kaplan and the Beige Book
03/01 Loretta Mester
03/02 Charles Evans, Jeffrey Lacker and Janet Yellen.
(2) President Trump: He is speaking today in front of the State Governors and the bond market will react to any statements that he makes to them. But the real key is Tuesday night’s address to Congress where he may (or may not) actually discuss specifics on taxes, spending, and could even present a budget that will need to be voted on.
3) Domestic Flavor: After last week’s “yawner’ of lower level economic releases, this week has a very robust schedule with some of the biggest releases of the quarter. There will be the 4th quarter GDP but this has already been released once and will probably see a small upward revision, and Durable Goods are too volatile for economists to draw any real correlation with economic growth. So while those are big name reports, the most important ones are actually the Core PCE on Tuesday (will it move from 1.7% closer to the 2% target?), manufacturing data with Chicago PMI, and ISM will be key as will Friday’s ISM Services reading.
Market Wrap-up
Overview
As expected, MBS have sold off. It looks like the Fed is starting to move markets as the probability of a March rate hike finally hit 50% after Kaplan’s comments this afternoon.
Domestic Flavor
Durable Goods Orders: This was a mixed bag today as the headline January reading hit 1.8% which was stronger than expectations of 1.7%. But December was revised lower from -0.4% down to -0.8%. The Core reading (Ex-Transport) missed by a very large chunk (-0.2% vs estimates of +0.5%). But December was improved from 0.5% to 0.9%. This report has seen huge swings and major revisions over the past year to the point where it almost has no value in determining the state of our economy.
Housing: January Pending Home Sales were lighter than expected (-2.8% vs estimates of +0.8%). The main reason was a huge drop in the West Coast of -9.8%.
On Deck for Tomorrow: GDP (revised), Case-Shiller Home Price Index, Chicago PMI, Consumer Confidence and the Richmond Fed.
The Talking Fed
Dallas Fed President Robert Kaplan said he expects the U.S. to hit its 2% target inflation this year and that he expects “a few” rate hikes. You would assume that 2 is a “couple” and 3 is a “few” here. He does have a vote this year.