Learn from the Past
Overview
Mortgage backed securities (MBS) lost just 5 basis points (BPS) from last Friday’s close which caused fixed mortgage rates to remain at their best (lowest) levels of 2019 for the sixth week in a row.
It was a holiday-shortened week that was very “choppy” with a swing of a solid round of 47BPS from best to worst pricing of the week. The domestic economic data was very strong with ISM Services and a rock-solid jobs report on Friday. The Fed left the door open for a rate decrease in September but appears to be in the 1/4 point camp rather than the 1/2 point camp. Their commentary was actually fairly positive on our economy.
Jobs, Jobs, Jobs
It was Big Jobs Friday! You can read the official BLS report here.
Let’s look at the Tale of the Tape:
Jobs:
• August Non Farm Payrolls (NFP) 130K vs estimates of 158K
• July NFP revised from 164K to 159K
• June NFP revised from 193K to 178K
• The more closely watched 3 month rolling average is now 156K (anything above 130K is good and above 150K is very, very strong).
Wages:
• The average hourly earnings increased to $28.11
• Average Hourly Earnings MOM increased by 0.4% vs est of 0.3%
• Average Hourly Earnings YOY increased by 3.2% vs est of 3.1%
Unemployment:
• The Unemployment Rate remained at 3.7% vs estimates of 3.7%
• The Participation Rate ticked up from 63.0% to 63.2%, estimates were 62.9%
The Talking Fed
Fed Chair Jerome Powell said, “Political factors play absolutely no role in our process, and my colleagues and I would not tolerate any attempt to include them in our decision-making or our discussions,” and “we are going to act as appropriate to sustain the expansion.” He also said, “Our obligation is to use our tools to support the economy, and that’s what we’ll continue to do,” and that “we are clearly at a time where there is a range of views”
The Fed’s Beige Book Hit Wednesday
You can read their official release here.
Here are some key takeaways:
• The Fed described economic activity as “continuing to expand at a modest pace overall” with output generally stable and certainly not in need of urgent Fed intervention
• Concerns regarding tariffs and trade policy uncertainty continued
• Home sales remained constrained in the majority of districts due primarily to low inventory levels, and new home construction activity remained flat
• Districts continued to report strong upward pressure on pay for entry-level and low-skill workers, as well as for technology, construction, and some professional services positions
• On net, districts indicated modest price increases since the last report
• Employment grew at a modest pace, on par with the previous reporting period
Services
Representing more than 2/3 of our economic output, the August ISM Non-Manufacturing Index hit 56.4 vs estimates of 54.0.
What’s on the Agenda for this Week?
Overview
This is a very pivotal week in terms of data leading into next week’s FOMC meeting and more importantly the potential ECB action on Thursday. There is not a complete consensus on what they will do but the market widely believes in some level of easing at Mario Draghi’s last meeting. But if they do nothing, MBS will feel the pressure, if they do very little, then it will have little to no impact. If they go defcon 5 and lower rates and throw in a bunch of QE, then pricing will “pop”. Until their meeting on Thursday, look for MBS to stay within that same channel that it has been in for the past 5 weeks. The usual wildcards of Brexit and China Trade are still very much in play as well.
Three Things
The three areas that have the greatest ability to impact backend pricing this week are: (1) Central Bank Palooza, (2) Geopolitical/trade and (3) Domestic Flavor.
(1) Central Bank Palooza: The European Central Bank will give their latest interest rate decision and policy statement on Thursday. Of note is that it is ECB Chair Mario’s Draghi’s swansong as this is his last press conference as head of the ECB. The markets are expecting a small (10BPS) rate cut, maybe more which would push the EU into Japan’s world of negative interest rates (which has never worked out for Japan). Plus, there’s the real possibility of an additional round of QE in the $30B per month range as Draghi sets the table for the next ECB Chair. Germany is also in focus as there is growing speculation that they will inject some stimulus into their economy via government spending.
(2) Geopolitical/Trade:
Brexit – A vote in the House of Commons to hold an election will likely get defeated on Monday, with the opposition parties trying to force Johnson into asking the EU for an extension. Parliament is also expected to be “suspended” later in the day until October 15th.
After some news reports out of China last week that appeared to show both sides coming back to the table, the market will be paying keen attention to see if that narrative moves forward or if we go back to the “see-saw” pattern that has played out so many times in this saga.
(3) Domestic Flavor: Overall, the economic data since the last FOMC meeting has continued to show growth. This week is the last round of data before next week’s meeting. If the data continues to be strong, it will cause some bond traders to hedge towards no rate decrease at the worst and at the best a 1/4 point decrease. If this last round of data is soft though, it would give some ammunition to the 1/2 point rate cut camp. The big reports this week are Core CPI YOY which is expected to increase to 2.3% (not rate friendly) and Retail Sales which has surprised to the upside in the last two releases.
Treasury Auctions this Week
09/10 3 year note
09/11 10 year note
09/12 30 year Bond
Market Wrap-up
Domestic Flavor
Consumer Credit: The July report saw a huge surge in Credit Card usage. Total Consumer Credit Change came in at $23.29B vs. estimates of $16.00B. But when you strip out auto loans and student loans, you see a big spike in revolving debt of $10B.
Across the Pond
Great Britain: GDP MOM July 0.3% vs. estimates of 0.1%. Industrial Production MOM 0.1% vs. estimates of -0.1%.
On Deck for Tomorrow
Business Optimism, JOLTS and our 3 year Treasury Note auction. China: PPI and CPI.