Learn from the Past
Mortgage backed securities (MBS) lost just 7 basis points (BPS) from last Friday’s close which caused fixed mortgage rates to remain at their highest levels of 2018.
There were three big events that shaped rates last week: election results, the Fed and inflation. Inflation has reared its ugly head with PPI at 3.3% in China and 2.9% in the U.S. As a refresher – inflation is Kryptonite to bonds and MBS sold off on Friday as a result. The election results were largely what the markets expected with the Senate remaining with the Republicans and the Democrats taking the House. There would have been a lot more volatility if either party won both. The Federal Reserve also did not surprise the markets with setting the stage for a rate hike at their December meeting.
The Talking Fed
The FOMC voted unanimously to keep rates unchanged at this meeting. The Fed seems largely unconcerned with the recent stock market volatility and is signaling “further gradual rate increases ahead” which did nothing to change market expectations for a rate hike in December.
The Producer Price Index data for October surged to their highest levels in 6 years. The Headline PPI YOY jumped by 2.9% vs. estimates of 2.5% and the Core (ex food and energy) PPI YOY increased by 2.6% vs. estimates of 2.3%. Margins in machinery, equipment, parts and wholesale supplies saw a large rise.
The Republicans picked up a couple of more seats in the Senate to maintain their majority and the Democrats picked up enough seats to claim the House but the House is still fairly evenly split 220 to 193.
What’s on the Agenda for this Week?
This is a holiday-shortened week with Geopolitical events and Trade War concerns gaining the majority of the headlines with U.S. economic data in the back seat. Look for MBS to remain within the same channel as last week unless there is some real movement in the Trade Wars (worse pricing) or a full scale war in the Middle East (better pricing) breaks out. If MBS nears that 25 day moving average, take your money and run…taking risk at the level is not advised.
The three things that have the greatest ability to impact back-end pricing this week are: (1) Trade Wars, (2) Geopolitical and (3) Domestic Flavor.
(1) Trade Wars: NOFTA is still not complete and new auto tariffs are being floated around to help push everyone to move forward. Canada has also asked for an exception on steel and aluminum tariffs which are not part of the NOFTA agreement. Separately, there is cautious optimism over the U.S. vs. China trade war as the Chinese Vice Premier Liu He is planning to visit the U.S. this month to work on resolving the ongoing U.S.-China trade dispute with Treasury Secretary Steven Mnuchin.
(2) Geopolitical: Italy is still a major concern as one of their top banks had to have an emergency bailout this weekend and Italy’s government is vowing to continue to go against EU rules and keep their budget as is. Meanwhile, a hard-Brexit seems like a foregone conclusion. Both situations spell out major instability across the pond. Israel and the Hamas have been going at it in the Gaza strip that could escalate into a full scale war there after both have launched hundreds of rockets at each other over the weekend.
(3) Domestic Flavor: The biggest domestic releases this week will be our CPI as traders want to see if last week’s big spike in PPI readings also show up on the consumer side of the equation. Retail Sales will also get plenty of attention.
The Talking Fed
Several key Federal Reserve governors will speak, including Fed Chair Powell.
11/13 Neel Kashkari, Mary Daly
11/14 Randal Quarles, Jerome Powell and Robert Kaplan
11/16 Charles Evans