Learn from the Past
Mortgage-backed securities (MBS) gained +20 basis points (BPS) from last Friday’s close, which caused fixed mortgage rates to move slightly lower compared to the previous week.
There was another round of fairly strong domestic economic data which normally pressures interest rates higher. But offsetting the continued strong U.S. economic growth is concern over trade talks between the U.S. and China as well as geopolitical concern over Iran and instability in the EU with Brexit and Italy getting a lot of attention. This global uncertainty pushed more money into long-bonds like MBS which helped interest rates improve slightly.
Consumer Sentiment: The May preliminary University of Michigan’s Consumer Sentiment Index blew the doors off expectations with a very robust reading of 102.4. This is the highest reading since January 2004! Also, inflation expectations picked up to 2.5% over the next 12 months.
Retail Sales: The April Retail Sales report was a mixed bag with upward revisions to the prior month but a miss on the headline reading for April. The headline reading showed a contraction of -0.2% vs expectations of +0.2%. But March was revised upward from 1.6% to 1.7%. Retail Sales Ex-Automobiles gained 0.1% but the market was expecting 0.7%. March was revised upward from 1.2% to 1.3%.
Manufacturing: The May NY Empire Manufacturing Index jumped to a very high reading of 17.8 vs estimates of 8.5. Industrial Production for April was much weaker than expected, -0.5% vs estimates of 0.0%. Capacity Utilization dropped from 78.5% down to 77.9%.
Leading Indicators: The composite of 10 economic components for April matched market expectations with a reading of 0.2%.
Philly Fed: Their Business Outlook Survey for May came in a double the reading of April (16.6 vs last of 8.5) and is the best reading since January. The internal employment component was very strong, at 18.2 for a 3.5 point gain.
China announced tariffs of $60B on U.S. goods which breaks down to 2,493 specific items, but some of these tariffs are not new. 595 items were already tariffed at the rate of 5% and will remain at that rate. 974 new items will receive a 10% tariff and 1,078 items will move up to a new tariff rate of 20%. In response, the U.S. Commerce Department added Huawei Technologies Co Ltd and 70 affiliates to its “Entity List” – a move that will make it much more difficult for the telecom giant to buy parts and components from U.S. companies. U.S. officials said the decision would also make it difficult for Huawei to sell some products because of its reliance on U.S. suppliers.
On a separate front, the U.S. has decided to delay increasing auto tariffs on the EU and Japan for six months.
Canada and the U.S. have agreed to end all pending WTO tariff litigation with the agreement taking effect in “no later than two days.” The move will also lift the 25% steel and 10% aluminum tariffs the U.S. placed on the two trading neighbors almost a year ago in the name of national security.
What’s on the Agenda for this Week?
This week and next will have holiday-shortened sessions with the bond market closing early on Friday and will not reopen until Tuesday. There are no major economic releases domestically or internationally that have the gravitas to change pricing. The barrage of Fed Speakers this week and their message about the path of future Fed action (or more realistically inaction) and their view on inflation is what will be driving pricing this week. The bond market does not expect (or have priced in) any positive trade movement this week. The real wild card is geopolitical events.
The three areas that have the greatest ability to impact your backend pricing this week are: (1) The Talking Fed, (2) Trade War and (3) Geopolitical.
(1) The Talking Fed: The June FOMC meeting is fast approaching, and the bond market will be focused intently on the collective message that this week’s talking Feds send out. The Minutes from the last FOMC meeting will be issued, as well as the Minutes from the last ECB meeting. ECB President Draghi will also speak. Here is the very packed schedule for the week:
- 05/20 Raphael Bostic, Patrick Harker, Richard Clarida, Jerome Powell and the Chicago Fed’s National Activity Index
- 05/21 Raphael Bostic, Charles Evans and Eric Rosengren
- 05/22 James Bullard and the Minutes from the last FOMC meeting
- 05/23 Robert Kaplan, Tom Barkin, Raphael Bostic, Mary Daly and the Fed’s Balance Sheet
(2) Trade War: China says that it is in “no rush” to resume trade talks but has invited U.S. Treasury Secretary Mnuchin back to China. Meanwhile, on the Huawei front, Google’s Alphabet has announced that it will cut off Huawei Mobile’s access to most of its Android operating system offerings. Also, German chipmaker Infineon Technologies said it would suspend deliveries to Huawei.
(3) Geopolitical: Tensions continue to escalate between the U.S. and Iran and will be closely watched. But it’s Europe that may have a more immediate impact. The EU Parliament will start four days of elections on Thursday.
The week started with no new news on trade talk or Iran. There were also no major (or even minor) domestic economic releases to react to. The very large wick on Friday showed weakness in MBS pricing as there was a significant pullback from those intra-day highs which could not be sustained. Today was more of the technical correction as MBS retreated below the 10 day moving average but they maintained solid support at 25 day moving average.
Atlanta Federal Reserve President Raphael Bostic said he does not see the central bank cutting interest rates, contrary to stock market expectations (note: the bond market DOES NOT expect a cut). “The market is ahead of where I am,” he said. “I would say I’m not expecting a rate cut to be imminent, certainly not by September. Things would need to happen in order for that to play out.”
Philadelphia Fed President Patrick Harker expressed his opposition to rules-based Fed policy. “Monetary policy isn’t that precise. Despite some of the smartest thinkers and the best models, we can’t assign a degree of certainty to any of the variables.”
On Deck for Tomorrow: Existing Home Sales, Fed Speakers Evans, Rosengren.
Across the Pond
- Japan: Industrial Production -0.6% vs estimates of -0.9%
- Germany: PPI MOM 0.5% vs estimates of 0.2%.