Learn from the Past
Overview
Mortgage backed securities (MBS) lost 132 basis points (BPS) from last Friday’s close which caused fixed mortgage rates to rise to their highest levels since July 11th.
Yet another round of very solid domestic economic data (Retail Sales, CPI) caused long bond traders to shift their expectations from a 50BPS Fed rate down to a 25BPS to 0BPS range. There was also some rare positive momentum in trade talks between the U.S. and China. The European Central Bank (ECB) kept their interest rate the same but did announce a new round of QE but the markets don’t believe that they have the ability to actually carry out their new bond buying program. Those three areas hammered MBS pricing and drove mortgage rates higher.
Trade War
President Trump has agreed, as a gesture of good will, to move the increased Tariffs on 250 billion dollars’ worth of goods (25% to 30%) back from October 1st to October 15th. Beijing announced that it would indeed encourage state-owned companies to begin “goodwill” purchases of US soybeans, pork and other farm goods (desperately needed by China) by issuing waivers from trade-war tariffs. Beijing also waived import tariffs on more than a dozen US goods. Beginning Sept. 17, China will remove 25% tariffs on 16 types of US exported goods for one year – a sign of good will ahead of talks between US and Chinese trade delegations.
Domestic Flavor
Retail Sales: Headline August Retail Sales came in a double market expectations of 0.4% vs. estimates of 0.2%. Plus the big beat in July of 0.7% was not a fluke as it was revised even higher to 0.8%. Ex-Autos, Retail Sales were flat at 0.0%.
Inflation Nation: The August Headline Consumer Price Index (CPI) YOY increased by 1.7% vs. estimates of 1.8%. The Core (ex food and energy) CPI YOY increased by 2.4% vs. estimates of 2.3%.
Central Bank Palooza
The ECB kept their key interest rate at 0.0%, However, they did lower their Deposit Rate from -0.4% down to -0.5%. This was widely expected but the unknown was the announcement of a NEW bond buying program of $20B Euros per month of net asset purchases “for as long as it deems necessary”.
What’s on the Agenda for this Week?
Overview
The economic data from the last FOMC meeting to this one does not support ANY rate changes from the Federal Reserve this week. So, it is only their target inflation level that has remained stubbornly below 2% that gives them any window to lower rates. While the stock market is clamoring for a 50BPS rate cut, the bond market is expecting only a 25BPS cut which raises odds over the past week (but still very low) that the Fed may stand pat and not lower rates at all. Their rate decrease (if any) combined with their economic projections will be a big factor in rates this week. For example, a 25BPS rate cut and a “dot plot” that shows no further expected rate cuts this year is likely to pressure MBS lower. But a 50BPS rate cut and a “dot plot” that shows more rate cuts will certainly help MBS to rally.
Three Things
The three areas that have the greatest ability to impact your backend pricing this week are: (1) Central Bank Palooza, (2) Trade War and (3) Geopolitical.
(1) Central Bank Palooza: We will hear from 3 of the world’s top 5 largest central banks this week. Our own Federal Reserve will take center stage. Wednesday afternoon. We will get their Interest Rate Decision and Policy Statement. But we also will get their Economic Projections (think “dot plot chart”) and a live press conference with Fed Chair Jerome Powell. The bond market will react to the projected path of interest rates more than the actual rate cut (if any). We also will get interest rate decisions from the Bank of Japan and the Bank of England.
(2) Trade War: The U.S. and China have seen some progress over the past week and any further movement will get the attention of traders. But Europe is also in focus as the WTO looks like it has ruled in the United States’ favor in regards to their claims against AirBus which clears the way for the U.S. to startup $6 to $10B in tariffs against Europe. Also, the Mexico and Canada deal is trying to get through Congress.
(3) Geopolitical: Over the weekend, a major Saudi oil facility was attacked by drones. Iran is being accused of initiating the strike. Both the U.S. and Iran have stepped up the “saber rattling” over military action. Brexit is fast approaching and the demonstrations in Hong Kong are also on the radar.
Market Wrap-up
Domestic Flavor
Manufacturing: The regional NY Empire Manufacturing Index showed a gain of 2.0 vs. estimates of 4.5.
On Deck for Tomorrow: The FOMC will start two days of meetings, Industrial Production and Capacity Utilization, NAHB Housing Market Index.
Geopolitical
The news was dominated with the attack on the Saudi oil operation and if it was a group out of Yemen or directly from Iran.
Across the Pond
China: Retail Sales 7.5% vs. estimates of 7.9%, Industrial Production 4.4% vs. estimates of 5.2%.