What happened last week?
Overview
Mortgage backed securities (MBS) lost 90 basis points (BPS) from last Friday’s close which caused fixed mortgage rates to move higher from the prior week.
There was extremely strong domestic economic data and another week of the Fed pounding the airways trying to turn the markets around to pricing in a March rate hike. The difference was that after three weeks, it finally worked as the market moved from a 50% probability of a rate hike 2 weeks ago, to a 90% probability of a rate hike last week. The effect was a selloff in long bonds that are very rate sensitive, which caused mortgage rates to rise.
Domestic Flavor
Housing: The Case-Shiller Home Price Index (20 metro city) was a little higher than expected (5.6% vs estimates of 5.3%) but this data from December and is a small sample size. More weight is put on the Existing Home Sales median price than this report.
Consumer Confidence: The February reading was very strong (almost a 15 year high) with a 114.8 reading which was much stronger than January’s reading of 111.6 and the consensus estimates of 110.9.
Manufacturing: February’s Chicago PMI blew the doors off of estimates (57.4 vs estimates of 53.0). Any reading above 50 is good and this was a very hot reading.
January’s Richmond Fed Manufacturing Index also showed strength as the regional report was stronger than estimates (17 vs 10).
The national ISM Manufacturing Index for February was very hot. It came in at 57.7 which was much higher than the market forecasts of 55.7.
ISM Services: Yet another red-hot economic data point. ISM Non-Manufacturing represents more than 2/3 of our economic engine and it was very high, coming in at 57.6 vs estimates of 56.5. Any reading above 50 is expansionary and a reading near 58 is fantastic.
The Talking Fed
Philly Fed President Patrick Harker (voting member) said “I see three hikes as appropriate for 2017, assuming things stay on track.”
San Francisco Fed President John Williams (non-voting member) said, “In my view, a rate increase is very much on the table for serious consideration at our March meeting,” and, “We need to gradually ease our foot off the gas in order to avoid a ‘too hot’ economy that in the end isn’t sustainable.”
The Beige Book showed that the economy continues to expand at “a modest to moderate pace from early January through mid-February.” And it was overall up-beat but noted that while Business Optimism continued to rise, it was at a lesser pace than the prior period. Overall, nothing in this report really shocked the market. It was not weak enough to reverse the rapidly building market sentiment that a March rate hike is in the cards…nor strong enough to “seal the deal.”
Federal Reserve Janet Yellen spoke in Chicago. You can read her prepared statement here. Overall, her theme matched the recent bevy of “hawkish’ comments from Federal Reserve members. Here are some key highlights:
– Fed will raise rates this month if the economy holds up.
– Rates are likely to rise faster this year for the first time since she took the helm of the Fed.
– She sees no evidence the Fed has fallen behind the curve.
– Gradual removal of accommodation is likely to be appropriate.
What’s on the agenda for this week?
Overview
This is a pivotal week. The biggest domestic event is Friday’s Average Hourly Data. If it is at 0.2% or above, the MBS market will more fully price in a rate hike next week. But until Friday, MBS will be reacting to the Chinese and European Central Bank rate decisions. From a technical perspective, MBS are still “treading water” just above the support level from last week. That support level should hold today but a hawkish PBOC and/or strong wage data on Friday would shatter that support. MBS are expected to trade in a narrow range (+9 to -15BPS) but there will not be a sell off. That means no reversal from last week.
Three Things
The three things that have the greatest ability to impact pricing this week are: (1) Jobs, Jobs, Jobs. (2) Geo-Political and (3) Across the Pond.
(1) Jobs, Jobs, Jobs: Yellen and crew made it very clear (and the markets actually listened after the exact same message for three straight weeks) that they are on track for a March rate hike provided that the economy continues on its current path. After last week’s blockbuster manufacturing, services, and consumer sentiment reports, only one thing stands in the way between now and next week’s FOMC meeting and that is Big Jobs Friday. There will be Unemployment Rate and Non-Farm Payroll data but the bond market will be focused on the Average Hourly Wage data. Any monthly reading at or above 0.2% or a year-over-year reading at or above 2.5% will “seal the deal” in the market’s mind of a rate hike next week.
(2) Geo-Political: There is supposed to be a revised travel ban/immigration order this week that will exempt green card holders and Iraq. But more importantly, the GOP is supposed to release their Obamacare fix. The key with that is what trade-offs will they make in terms of tax policy (as far as bonds are concerned).
(3) Across the Pond: The European Central Bank will have their policy statement and interest rate decision on Thursday and It will be interesting to see how their bias changes given that our Fed is poised to raise rates. The bond market is keen to know that that influences their asset purchase program, etc. This also goes to the unclean political future of the leadership of Germany, France, Italy and Spain with a few of those countries potentially leaving the Eurozone.
China: The People’s Bank of China will have their key interest rate and policy statement as well as their key economic data like CPI this week.
Japan: They will release an important GDP report this week.
Treasury Auctions this Week
03/07 3 year note
03/08 10 year note
03/09 30 year bond
Market Wrap-up
Overview
It was a real “yawner” to start a week that is likely to have plenty of volatility. There was one economic report and as expected, the floor of support held nicely.
Domestic Flavor
Factory Orders: The January reading matched the market expectations of 1.2%. Most of the strength was in aircraft orders. Not a factor in pricing today.
On Deck for Tomorrow: China’s rate decision, U.S. Trade Balance, 3-year note auction and Consumer Credit.