Learn from the Past
Mortgage backed securities (MBS) lost 10 basis points (BPS) from last Friday’s close which caused fixed mortgage rates to move slightly higher for the week.
It was a very light week for economic data but there was one major release (Retail Sales) which showed some real strength. The Federal Reserve got a lot of attention this week with two days of testimony by Fed Chair Powell and the release of their Beige Book. The takeaways from the Fed and President Trump’s remarks are that the Fed is on track for potentially two more hikes this year.
The June data matched expectations with the headline reading hitting 0.5% vs. estimates of 0.5%. The May reading was revised upward significantly from 0.8% to 1.3%. Same story when you strip out Autos. June was 0.4% vs. estimates of 0.4% and May was revised upward from 0.9% to 1.4%.
The Talking Fed
Tthe Semi-Annual Monetary Policy Report testimony was on Tuesday and Wednesday.
Fed Chair Jerome Powell’s prepared statements and live comments were much aligned with the FOMC’s last policy statement as they cited strong economic and job growth and were willing to let the economy run at a higher than 2.0% inflationary pace in the near term. But the following quote from Powell sums it up pretty well: “With a strong job market, inflation close to our objective, and the risks to the outlook roughly balanced, the FOMC believes that – for now – the best way forward is to keep gradually raising the federal funds rate.”
The Beige Book
The Beige Book, which is prepared specifically to be used at the next Fed meeting, was released. Here are some highlights:
– Used the word “tariff(s)” 31 times in July. That compares to 22 in May, 36 in April and 0 in March’s Beige Book.
– Labor shortages and wages were a big theme across all districts. The S.F. Fed reported that “shortages of plumbers, electricians, and other specialized workers drove wage pressures for these positions and led to construction project delays in some cases.” The Kansas City Fed noting that contacts noted difficulty “finding retail sales staff, skilled IT workers, commercial drivers, and restaurant workers.” And the NY Fed said that one business contact “observed that almost all job-seekers are already employed.”
– Two more rate hikes? President Trump is concerned that we will have two more rate hikes this year. And while the Fed has in fact indicated in their famous “dot plot” chart that two more hikes are to be expected, the markets have NOT been pricing in the second one yet. The third rate hike has been all but priced in but the 4th is not. So, does this mean that there is MORE of a chance of that 4th rate hike?
What’s on the Agenda for this Week?
There will be a ton of housing news this week but it won’t have any impact on pricing. The Three Things below need to be closely watched, as already number 2 is pressuring MBS due to the Bank of Japan. While experts expect MBS to still enjoy sizeable support, the GDP report could be well above 3.5% and bonds do not perform well at growth levels above 3.00%.
The three areas that have the greatest ability to impact back end pricing this week are: (1) GDP, (2) Central Bank Palooza and (3) Geo-Political.
(1) GDP: We get our first look at the second quarter GDP data. Estimates have a very wild range for this release ranging from 3.5% all the way up to 5.3%! The higher this number is, the worse it is for pricing. The reading would need to be at 3.00% or below for MBS to see any improvement from this report.
(2) Central Bank Palooza: The European Central Bank will be meeting all week and release their latest policy statement and interest rate decision on Thursday. There will also be a live press conference with ECB President Mario Draghi. The bond market is not pricing in any action at this meeting, so his remarks will carry a lot of weight in the absence of any new policy initiatives. The Bank of Japan has stepped in and announced that they will purchase “any amount” of bonds to get their yield back down to 0% but have floated to the markets that they need a reading to increase their target rate above zero.
(3) Geo-Political: Plenty going on in this category. British PM May’s attempt at a “soft” Brexit looks less likely as a new poll shows most very unhappy with her recent “watered down” proposal which also puts her position in jeopardy. Trade Wars will continue to dominate the discussion. Since China cannot match our newly proposed $500B worth of Tariffs (they simply don’t import that much from the U.S.), the latest concern is that they will simply boycott U.S. products instead of purchasing them with a tariff.
07/24 2 year note
07/25 5 year note
07/26 7 year note
The bond market clearly shifted some risk that the Bank of Japan would soon be raising their target rate which pressured MBS today. So far the intra-day floor of support has held up.
Taking it to the House: The June Existing Home Sales report showed the annualized pace of sales at 5.38M vs. estimates of 5.44M. Inventory constraints are the culprit as there are only 4.3 months of inventory available. Home Prices continue to move higher with the median price now at $276,900 which is a NEW ALL TIME HIGH.
Manufacturing: The Chicago Fed showed a big bounce back in production as their June reading hit 0.43 which was double the market expectations and a nice pickup from May’s pace of -0.45.
On Deck for Tomorrow: FHFA Housing Price Index, Richmond Fed Manufacturing and our 2 year Treasury note auction.
Across the Pond
The G20 meeting is underway in Argentina and will last all week.
Central Bank Palooza: The Bank of Japan has stepped in and announced that they will purchase “any amount” of bonds to get their yield back down to 0% but have floated the idea to the markets that they are ready to increase their target rate above zero at their next meeting.