Morning Report: Futures now anticipate a 50% chance of a March hike

Vital Statistics:

	Last	Change
S&P Futures	2365.8	-2.5
Eurostoxx Index	369.7	0.2
Oil (WTI)	53.7	-0.4
US dollar index	90.9
10 Year Govt Bond Yield	2.36%
Current Coupon Fannie Mae TBA	102.59
Current Coupon Ginnie Mae TBA	104.063
30 Year Fixed Rate Mortgage	4.09

Stocks are flattish on no real news. Bonds and MBS are down small. 

There were no changes to the headline estimate for fourth quarter GDP in the second revision. It came in at 1.9%, while the price index was revised down to 1.9% from 2.2%. 

Despite the subdued growth and inflation, the Fed Funds futures are bumping up their probability of a March hike to about 50% now. There is the perception that Yellen's Fed is worried most about surprising the markets, so in some ways, this becomes a self-fulfilling prophecy. The more the Fed Funds futures price in a hike, the more likely the Fed is to vote for one. 

Home prices rose 5.8% in December, according to the Case-Shiller Home Price index. This is the fastest pace of acceleration in the past 2.5 years. Interestingly, we are starting to see correlations between the top tier and bottom tiers break down as the luxury market slows while the demand for starter homes increases. Much of that is inventory-driven, where starter homes are snapped up within a month of listing, while McMansions languish. Certainly in the Western MSAs, Chinese demand is a big factor, and that has been slowed by capital controls.

Housing demand increased 6.5% in January, according to Redfin. “Soaring stock markets, still low mortgage rates and a steady economy bolstered homebuyers at the start of 2017,” said Redfin chief economist Nela Richardson. “Homebuyers were not just window shopping, they were serious about making offers and getting to the closing table. However, this uptick in homebuyer enthusiasm won’t guarantee strong sales in the coming months. With pending home sales down across the country in January despite strong demand, the lack of supply is a formidable foe for buyers this year.”

The trade deficit widened to $69.2 billion in January from $64.4 billion in December. Exports fell 0.2% while imports rose 2.3%. The US dollar is playing a big part here, but I suspect this number will begin to take on more importance going forward, especially with respect to threats of protectionism, which will flow through to growth and ultimately interest rates. 

In other economic news, business activity strengthened in February, according to the Chicago PMI Index. Consumer confidence rose in February and stands at a 15 year high, according to the Conference Board. Finally, the Richmond Fed Manufacturing Index improved. 

Donald Trump will address Congress tonight, and lay out his vision for his administration going forward. Expect to see a call for increased defense spending, while cuts in discretionary spending to offset it, along with stepped up growth assumptions. Administration officials are signaling that the speech will be a Reaganesque "Morning in America" speech of optimism and economic growth. Those looking for details on his plans should probably not expect much in the way of clarity. The speech will probably not be market-moving unless it goes really badly, in which case you should expect a flight to safety, with lower stock prices and lower interest rates. Here are the sectors to watch: financials, retailers, healthcare.

Freddie Mac has put out its Outlook for the housing market and origination. They forecast a 27% drop in originations as the refi business goes away, with the 30 year fixed rate mortgage to average 4.4%. Their baseline prediction anticipates some fiscal stimulus out of DC, which should send inflationary expectations somewhat higher, but not cause a major increase. The second most likely scenario would be heavier fiscal stimulus, which would cause higher inflation, with higher interest rates, higher home price inflation, and lower origination numbers. The least likely scenario is a retrenchment of inflation (basically the Japan scenario).

Morning Report: Pending Home Sales fall

Vital Statistics:

	Last	Change
S&P Futures	2363.5	-1.5
Eurostoxx Index	368.6	-1.4
Oil (WTI)	54.5	0.6
US dollar index	90.8
10 Year Govt Bond Yield	2.33%
Current Coupon Fannie Mae TBA	102.045
Current Coupon Ginnie Mae TBA	103.17
30 Year Fixed Rate Mortgage	4.09

Stocks are lower this morning on overseas weakness. Bonds and MBS are up small. 

We have a slew of economic data this week with the second revision to Q4 GDP, Personal Income and Spending, Construction Spending, and the ISM data. Even though this Friday is the first of March, the jobs report will be released on the 10th. Finally, we get some Fed-speak this week, culminating with Janet Yellen on Friday, which will begin the quiet period ahead of the March FOMC meeting. 

Durable Goods orders rose 1.8% MOM but are down 0.6% YOY. Capital Goods expenditures fell 0.4% MOM and are up 0.5% YOY. Capital Goods orders are a proxy for business investment (and therefore the animal spirits), so for all the talk about improved sentiment businesses are still in maintenance mode, not growth mode.

Pending Home Sales fell 2.8% in January as tight inventory reduced sales. Lawrence Yun, NAR chief economist, says home shoppers in January faced numerous obstacles in their quest to buy a home. "The significant shortage of listings last month along with deteriorating affordability as the result of higher home prices and mortgage rates kept many would-be buyers at bay," he said. "Buyer traffic is easily outpacing seller traffic in several metro areas and is why homes are selling at a much faster rate than a year ago 1. Most notably in the West, it's not uncommon to see a home come off the market within a month."

Donald Trump's proposed budget includes increased defense spending, a cut to agency budgets, and no changes to Social Security and Medicare. This is just an opening bid, and Congress will ultimately determine who gets what. Separately, Trump signed an executive order taking aim at excessive regulations. 

Jeffrey Gundlach, CEO of Double Line Capital sees the 10 year heading to a range of 2% - 2.25% as there is a "stealth flight to safety" happening globally and the most crowded trade on the planet (short bonds) goes the wrong way. He is supportive of Treasury's plan to issue longer-dated bonds (30 years up to 100 years). At these rates, why not? Warren Buffet won't touch them with a barge pole, however. 

For those that follow Buffet, here is his annual letter to shareholders, which is usually a fun read. 

Morning Report: New home sales rise in January

Vital Statistics:

	Last	Change
S&P Futures	2351.5	-11.0
Eurostoxx Index	368.0	-4.9
Oil (WTI)	53.8	-0.7
US dollar index	90.7
10 Year Govt Bond Yield	2.33%
Current Coupon Fannie Mae TBA	102.045
Current Coupon Ginnie Mae TBA	103.17
30 Year Fixed Rate Mortgage	4.12

Stocks are down this morning on disappointing earnings and slumping commodity prices. Bonds and MBS are up. 

Consumer sentiment flattened out in February, according to the University of Michigan consumer sentiment survey. 

New home sales rose 5.5% YOY to 555,000 in January. This is 3.7% above the revised December reading. The median new home price was $312,900 and the average price was $360,900. At the end of the month, there were 265,000 new homes for sale, which represents a 5.7 month supply. You can see from the chart we are barely back to pre-1990 levels which doesn't even take into account things like population growth and obsolescence. 

Donald Trump is scheduled to speak at CPAC this morning. Shouldn't be market-moving, but just be aware. 

Bonds have been rallying a touch on a report that Donald Trump's infrastructure plan will be moved out to 2018. The thinking is that Democrats are united in opposition at the moment (there is a lot of handwringing over handshaking), but by 2018, midterm elections will be looming and Trump could pick off some Democratic Senators up for re-election in states Trump won like Jon Tester or Claire McCaskill. Given that the Fed's forecast of 2-3 rate hikes in 2017 was contingent on fiscal stimulus, this could ultimately push the Fed to hike only twice this year.

Morgan Stanley is out with a call saying the housing recovery is still in the "middle innings." That is probably a fair assessment, however the building boom required to balance out supply and demand has yet to happen. As we know, the market for starter homes is extremely tight as builders focused on the luxury end of the market post-crisis and professional investors bought up small houses to turn into rentals. 

Did you know that if you wanted to lend money to the German Government for two years, it would cost you almost a percent per year? In other words, you would have to pay 101.73 to get back 100 in two years. Demand for safe collateral in Europe as well as fears of the French election have pushed German 2 year yields to -95 basis points. Strange times we live in. 

We are starting to see selling pressure at the ultra-high end of the real estate market as the new Chinese capital controls take effect. In an attempt to control currency outflows, the Chinese government imposed controls which limit real estate investments overseas. The most vulnerable cities are on the West Coast, particularly Seattle and San Francisco, although it should hit all of the big urban areas. Big McMansions which used to be snapped up in days now sit vacant in LA. 

Morning Report: Rate hike "fairly soon" according to the FOMC minutes

Vital Statistics:

	Last	Change
S&P Futures	2364.8	3.8
Eurostoxx Index	373.6	0.2
Oil (WTI)	54.7	1.1
US dollar index	90.8
10 Year Govt Bond Yield	2.39%
Current Coupon Fannie Mae TBA	102.045
Current Coupon Ginnie Mae TBA	103.17
30 Year Fixed Rate Mortgage	4.14

Stocks are flat this morning on no real news. Bonds and MBS are up small.

Initial Jobless Claims rose slightly to 344,000 last week. 

Economic activity took a step back in January, according to the Chicago Fed National Activity Index. The 3 month moving average is basically just below zero, which indicates the economy is growing more or less at its historical trend.

The FOMC minutes didn't really have much of an impact on the markets yesterday. The money quote: "In discussing the outlook for monetary policy over the period ahead, many participants expressed the view that it might be appropriate to raise the federal funds rate again fairly soon if incoming information on the labor market and inflation was in line with or stronger than their current expectations or if the risks of overshooting the Committee’s maximum-employment and inflation objectives increased." On the other side of the coin, the Committee worried about downside risks to the economy due to the stronger dollar, uncertainty about US fiscal policy, and potential overseas weakness. So overall, the minutes were taken to be generally dovish, but not enough to move markets.

Despite that "fairly soon" language, the Fed funds futures didn't really move, and are still pricing in about a 33% chance of a hike in March. Dennis Lockhart, speaking this morning, clarified that statement, saying that "fairly soon" means "in the next 3 meetings." Incidentally, Mohammed El Arian thinks the markets are underpricing this risk and he thinks it is a 50-50 chance of a rate hike next month.

The minutes did discuss housing briefly: "Recent indicators of activity in the housing sector were generally positive. Starts and permits for single-family housing and sales of existing homes rose moderately in the fourth quarter, and real residential investment bounced back after two quarterly declines. A couple of participants commented that supply constraints might be holding back new homebuilding. In addition, a few participants noted that prospects for residential investment would also depend on whether household formation picked up and how housing market activity responded to the recent rise in mortgage interest rates." The supply constraints alluded to probably refer to land, although skilled workers are also an issue. The rise in interest rates probably isn't large enough to affect purchase decisions - a lack of inventory, which is driving up prices matters more. A lack of affordable starter homes is probably a big factor in the depressed household formation rate. although jobs and student loan debt are the main drivers. 

We are becoming a nation of renters and landlords, as the percentage of buyers who don't plan to live in the house rose to 37% last year. This is really just the inverse to the falling homeownership rate. These new buyers may be potential landlord, or they could be flippers. Despite Blackstone's deal with Fannie Mae to acquire rental properties, Wall Street is generally exiting the mass rental business as it figures the easy home appreciation money has already been made.

House prices rose 1.5% in the fourth quarter, and are up 6.2% YOY according to the FHFA House Price Index. The Mountain division led the pack while the Mid-Atlantic division brought up the rear. Since bottoming out in early 2012, the index has posted a 6.2% annual growth rate.

Delinquencies fell in January, according to the Black Knight Financial Services First Look report. Total DQ rates fell to 4.25%, which is down almost 4% MOM and 16% YOY. Foreclosure starts did tick up on a MOM basis, but there is a seasonal aspect to that. 

A Reuters poll of housing economists shows that they are somewhat critical of deregulation in housing. ""Moving to ease back on those regulations now, when the market is already recovering and house prices are rising, would only increase the risk of another dangerous bubble forming," said Capital Economics property economist Matthew Pointon." FWIW, I think that fear is overblown, I don't see another bubble in housing as a possibility. Bubbles are rare psychological phenomena in an asset class, where both investors and bankers view an asset as "special" and dismiss the risk that it can decline in price. This causes both parties to take excessive risks - borrowers lever up too much, and bankers chase yield. Credit is still historically tight in the housing market, and the proposed changes to Dodd-Frank generally fall under small bank regulatory relief, providing better guidance such that banks can determine what regulators consider proprietary trading versus market-making, and making some changes to the CFPB. These changes won't bring back the no-no loans or pick-a-pay loans of 2006, and won't lead people to believe that house prices only go from the bottom left corner of the chart to the top right hand corner. To put everything in perspective, take a look at the mortgage credit availability index below. The difference between the bubble days and today couldn't be more stark. 

The analysts also are predicting a 4.4% mortgage rate by the end of the year. According to the latest MBA mortgage applications report, the average rate is 4.36%, so we are pretty much already there. 

Morning Report: Existing Home Sales strongest in 10 years

Vital Statistics:

	Last	Change
S&P Futures	2357.5	-2.5
Eurostoxx Index	373.2	-0.3
Oil (WTI)	54.0	0.6
US dollar index	91.3	.
10 Year Govt Bond Yield	2.40%
Current Coupon Fannie Mae TBA	102.045
Current Coupon Ginnie Mae TBA	103.17
30 Year Fixed Rate Mortgage	4.14

Stocks are higher this morning on no real news. Bonds and MBS are up small. 

Mortgage applications fell 2% last week as purchases fell 3% and refis fell 1%. The rate on a 30 year fixed rate mortgage rose 4 basis points to 4.36%, according to the MBA. 

The year got off to a strong start with existing home sales increasing at an annualized rate of 5.69 million in January, according to NAR. This is up 3.8% from a year ago, and is the strongest reading since Feb 2007. The median home price rose 7% to $228,900. Inventory is down 7% YOY and stands at 3.6 months' worth. Days on market dropped to 50 from 64 a year ago. The first time homebuyer accounted for 33% of sales, which is inching up. Competition is strongest for homes in the low to medium price range. Fannie's deal with Blackstone on single family rentals will probably only make the lower price points even tighter. Still, a good start for the year. If we get some regulatory relief for the smaller banks, we should see more construction for the "mom and pop" builders. 

Toll Brothers reported better than expected numbers this morning, with deliveries flat in dollars but up 12% in units, contracts up 14% in dollars and 22% in units, and backlog was up 19% in dollars and 21% in units. Average selling prices fell to 773,700 from 873,500, but that was due to an acquisition, and a geographic shift to the North and East. The company raised guidance as well for 2017. The stock is up about 6% pre-open. 

We have the potential for some volatility in rates this afternoon with a Fed speech at 1:00 and the FOMC minutes at 2:00 pm. Below is a chart of the current handicapping in the Fed Funds futures market. Looks like about a 30% chance of a March hike, about a 55% chance of a hike by May and a 75% chance of a hike by June. The dot plot from December is forecasting between 2 and 3 25 basis point hikes.

Donald Trump reversed Obama's immigration enforcement policy, which will make it easier to deport people who commit crimes. Obama's policy only deported those that were guilty of violent crimes. Trump will now include those guilty of fraud as well. The policy for "Dreamers" - those who came illegally as children - is unchanged. There are some worries that this will affect the housing market by reducing demand and making the market for construction workers even tighter. It could also tighten credit, as Dreamers are eligible for Fannie, Freddie, and FHA loans. The fear is that any sort of mass-deportation will trigger early defaults, leaving the lender on the hook for a buyback. From the look of it, the change in immigration policy is relatively minor - more for show than an actual substantive change in policy - and there are no mass deportations on the horizon. 

Any sort of increase in deportations will probably make a tight labor market even tighter, which would be inflationary. That is the fear about this afternoon's FOMC minutes. The FOMC statement from Feb 1 removed references to lower energy prices and a strong dollar, which work against inflation. Investors will also be looking to see if there was discussion around shrinking the Fed's balance sheet. This could conceivably affect mortgage pricing, as the biggest buyer of MBS pulls away. That said, spreads didn't do much when the Fed was aggressively buying, so the end of reinvestment probably won't make that big of a difference either. 

Fannie Mae shareholders got slammed yesterday after an appeals court rejected their bid to sue the US government over the "net sweep" dividend change. Fannie Mae stock was down 35% yesterday, while Freddie Mac was down 38%. Fannie stock has been on a wild ride since the election, rising from $1.65 to $4.50 before falling back to $2.71 yesterday. FNMA stock has always been a litigation lottery ticket, and the only reason it exists in the first place is because the government didn't want to have to consolidate Fannie and Freddie debt on its balance sheet so it had to leave 20% outstanding. Fannie Mae's market cap is $15.72 billion, and last year they earned $12.3 billion, which makes their P/E ratio about 1.3x. The Obama administration was adamant that FNMA shareholders should receive nothing – in their view conservatorship is tantamount to bankruptcy and in bankruptcies the common stock gets wiped out.

Morning Report: Average home sizes falling again

Vital Statistics:

	Last	Change
S&P Futures	2352.8	4.8
Eurostoxx Index	372.3	1.3
Oil (WTI)	54.5	1.1
US dollar index	91.4	0.4
10 Year Govt Bond Yield	2.45%
Current Coupon Fannie Mae TBA	102.045
Current Coupon Ginnie Mae TBA	103.17
30 Year Fixed Rate Mortgage	4.14

Stocks are up as the markets have a risk-on feel to them. Bonds and MBS are down small. 

Not much in economic data, but we will have Fed-speak all day, with Kashkari, Harker, and Williams speaking. 

The highlight of the week should be the FOMC minutes coming out tomorrow. Other than that, we get existing home sales, new home sales and the FHFA House Price Index. 

The initial look at February manufacturing indicates a slight decline as the flash PMI falls from 55.5 to 54.3. Services came in at 53.9. 

Goldman is tempering their enthusiasm for the S&P 500, warning that investors are overly optimistic. They predict the stock market will go nowhere for the rest of the year. Their concerns are that the good earnings from Q4 won't continue, and any sort of fiscal stimulus out of Washington will take time to be felt. 

Despite TRID's best efforts, about 17% of consumers end up being surprised by the existence of closing costs when getting a mortgage. The surprises run the gamut of points, up front MI and taxes. 

Speaking of taxes, here are some tax tips from NAR. 

House Financial Services Committee Chairman Bill Huizenga (R-MI) has introduced a bill to clarify the definition of points and fees under the CFPB QM rule by excluding title charges and escrowed T&I. 

We are starting to see average new home sizes decline, which is a function of the emerging first time homebuyer and the market for starter homes. After the real estate bust, the only segment of the new home market that was working was the ultra-luxury end, which meant that average home sizes increased. From 2009 to 2015, it looks like average square footage increased by close to 400 square feet. Now, as more and more starter homes and townhouses are being built, we are seeing average size decline again. Strange to think that the luxury end is the only part that works in the aftermath of a bust, but there you go. 

One often overlooked advantage to buying versus renting: The fact that making your mortgage payment every month amounts to a savings plan as you pay down your principal on your loan. 

The Despot reported better than expected earnings this morning as more and more people do work on their homes. Comps were up 6.3%. 

Morning Report: Home affordability returns to pre-crisis levels

Vital Statistics:

	Last	Change
S&P Futures	2338.5	-7.0
Eurostoxx Index	368.5	-1.6
Oil (WTI)	53.1	-0.3
US dollar index	910.9	0.1
10 Year Govt Bond Yield	2.41%
Current Coupon Fannie Mae TBA	102.1
Current Coupon Ginnie Mae TBA	103.2
30 Year Fixed Rate Mortgage	4.11

Stocks are lower this morning on overseas weakness. Bonds and MBS are up.

The index of leading economic indicators rose 0.6%, stronger than expected. 

Household debt increased in the fourth quarter, as growth in non-mortgage debt outpaced growth in mortgage debt. The 4th quarter saw $617 billion in newly originated mortgages, the highest level since Q32007. Auto loans and student loans saw an uptick in 90 day delinquencies, while credit cards and mortgages saw an improvement. Remember, this is only the debt side of the equation - both incomes and asset prices (especially housing) are higher than they were in 2007. 

Housing affordability remains about in line with pre-crisis levels, according to the NAHB. As of the end of the year, approximately 59.9% of all homes were affordable to a borrower with the median income. You can see the big swing in affordability between the boom and bust years. Tight inventory is being offset by (still) low mortgage rates. California remains the biggest issue regarding affordability. In the San Francisco MSA, just 7.8% of the homes sold were affordable to people earning the median income of $104,700.  

The median home price increased 7% in January to $261,100, according to Redfin. Home sales were up 5.6% compared to January 2016, which shows that the uptick in rates hasn't affected the purchase market. Inventory is down 12% YOY, and listings have dropped 5.1%. 18% of homes sold above list price, and the average sales to list ratio was 93.7%. Days on market fell 7 days YOY to 59. 

Despite all the missteps of the initial days of the Trump administration, stocks are partying like it is 1999. This certainly has the political class (and the business press) scratching their heads. First, while the first 100 days of the Official U.S. Airing of The Grievances may seem dramatic, it doesn't mean much for business (except for some consumer product companies and retailers who suffer from ideologically-driven boycotts). Second, for all the talk in the business press of "uncertainty," investors are sensing (correctly, I think) that gridlock is going to rule the day in DC. Nothing is more "certain" than gridlock, and if regulations get eased a bit, that is good for business. Gridlock also means the Fed has some room to go slower. At the end of the day, earnings drive the stock market, not the histrionics in Washington and the media. 

Morning Report: Market handicapping a higher probability of a March hike

Vital Statistics:

	Last	Change
S&P Futures	2345.5	-5.0
Eurostoxx Index	370.4	-1.1
Oil (WTI)	53.4	0.3
US dollar index	91.0	-0.2
10 Year Govt Bond Yield	2.49%
Current Coupon Fannie Mae TBA	102.1
Current Coupon Ginnie Mae TBA	103.2
30 Year Fixed Rate Mortgage	4.11

Stocks are taking a breather after several record highs. Bonds and MBS are flat. 

Housing starts came in at 1.246 million in January, a little better than expected. Starts are up 4.6% MOM and 8.2% YOY. Single family increased, while multi-family fell. Building Permits came in at 1.285 million. We are still way below historical averages in housing starts, which is even more apparent when you adjust for population. This is why inventory is so tight right now. While the aging of the baby boom and the bubble explain some of the weakness, the Millennials are a bigger generation than their parents. If the reason for a lack of construction is credit related, we could see an improvement as there is bipartisan consensus that Dodd-Frank put too big of a regulatory burden on the smaller community banks, and they are the ones who finance the smaller builders. 

Housing starts:

And housing starts adjusted for population growth:

Separately, house flippers are relying more and more on crowd-funding as opposed to hard money loans. 

Initial Jobless Claims came in at 239k, which is one of the strongest prints since the early 1970s. Separately, consumer comfort improved last week. 

Speaking of strong indicators, the Philly Fed index hit the highest number since 1983. While improved sentiment drove some of the increase, new orders (which is a tangible number) also hit a record. Employment indicators rose, with companies increasing the number of workers, and the number of hours. While these regional Fed reports aren't really big market-moving indicators, you can't ignore what they are saying either. 

After Yellen's testimony and yesterday's stronger-than-expected CPI numbers, the Fed funds futures market increased their implied probability of a March rate hike to 42% from 30%. 

Fed Vice Chair Stanley Fischer says that inflation and employment are improving, and monetary policy remains accomodative. He expects "to be moving closer to the 2-percent inflation rate and that the labor market would continue to strengthen. If those two things happen we'll be on the (policy) path that we more or less expected." So, staying with either 2 or 3 hikes this year. 

Despite the increase in rates, refis accounted for 47% of loans in January, which is pretty much where it has been since October. FHA and VA both increased. Time to close ticked up a day to 51. The average FICO score dropped by 4 points to 722. 

Fortress Investment, a majority shareholder of Nationstar, was bought by Japan's Softbank yesterday. Masayoshi Son is interested in building a US financial services business. Fortress's distressed mortgage portfolio did reasonably well, but their macro hedge funds have underperformed, and the stock has been dead money for years. What this means for Nationstar is anyone's guess.

Morning Report: Janet Yellen spooks the bond market

Vital Statistics:

	Last	Change
S&P Futures	2334.8	-2.3
Eurostoxx Index	371.3	1.1
Oil (WTI)	53.1	-0.1
US dollar index	91.4	0.1
10 Year Govt Bond Yield	2.50%
Current Coupon Fannie Mae TBA	102.1
Current Coupon Ginnie Mae TBA	103.2
30 Year Fixed Rate Mortgage	4.11

Markets are flat this morning as Janet Yellen continues to speak. Bonds and MBS are down.

Mortgage Applications fell 3.7% last week as purchases fell 5% and refis fell 3%. The average conforming rate fell 3 basis points, which makes this a surprise, but it could just be the vagaries of the slow season, which is pretty much over.

The consumer price index rose more than expected, increasing 0.6% month-over month and 2.5% year-over-year. The core rate, which excludes food and energy rose 0.3% MOM and is up 2.3% YOY. Both numbers are above the Fed's 2% inflation target, which is why bonds are selling off further this morning. Higher motor vehicle prices drove the increase, which is the highest reading in 4 years. Note that yesterday's PPI number (which typically leads CPI) showed very little inflation. While the Fed focuses on the Personal Consumption Expenditure index as its preferred method of measuring inflation, wage inflation is what matters. Until you see wage inflation, commodity push inflation will generally be self-correcting.

Retail sales came in better than expected, rising 0.4% month-over-month. Excluding autos and gas, they rose 0.7%.

In manufacturing data, the Empire State Manufacturing Survey increased to 18.7. Industrial production fell 0.3% however, while manufacturing production rose 0.2%. Capacity Utilization fell to 75.3%. Low capacity utilization rates are generally non-inflationary. Business inventories rose 0.4%, and the inventory to sales ratio fell from 1.38 to 1.35. A high inventory to sales ratio is generally bearish for the economy as it portends a slowdown in manufacturing while business works off excess inventory. The ratio is still elevated, but below last year's levels.

The post-election bump in builder confidence was given back last month as higher rates discouraged traffic. The index dropped from 68 to 65, which is still a strong reading.

Janet Yellen testified in front of Congress yesterday, beginning her two-day Humphrey-Hawkins testimony. Here are her prepared remarks. Bonds sold off during the testimony, apparently because of this statement: "As I noted on previous occasions, waiting too long to remove accommodation would be unwise, potentially requiring the FOMC to eventually raise rates rapidly, which could risk disrupting financial markets and pushing the economy into recession." Seems to be a pretty benign (and obvious) statement, but there you go. The 10 year added 5 bps in yield but recovered some of those losses later in the day. There was also mention of ending the program of re-investing maturing MBS proceeds back into the market, but that is probably something we won't see until next year. The effect of that on the MBS market is going to be a function of current rates and the average coupon of the portfolio.

Morning Report: Janet Yellen heads to the Hill

Vital Statistics:

	Last	Change
S&P Futures	2327.0	0.8
Eurostoxx Index	369.9	-0.2
Oil (WTI)	53.2	0.3
US dollar index	91.0	-0.2
10 Year Govt Bond Yield	2.43%
Current Coupon Fannie Mae TBA	102.1
Current Coupon Ginnie Mae TBA	103.2
30 Year Fixed Rate Mortgage	4.06

Stocks are flat this morning after the producer price index comes in a little hotter than expected. Bonds and MBS are flat.

As expected, Steve Mnuchin was confirmed by the Senate to be the new Treasury Secretary. 

The Producer Price Index (which measures inflation at the wholesale level) came in at 0.6% in January, higher than the 0.3% consensus estimate. On a year-over-year basis, it is up 1.6%. The core rate, which strips out the volatile energy and food components, was up 0.2% and is up 1.6% YOY. Inflation remains under control, and won't really accelerate until we see wage growth. 

Despite the early missteps of the Trump administration, small business remains optimistic about the future, according to the NFIB. Small business added on average .15 workers in January, the highest reading in two years, and historically a very high number. 53% reported trying to hire workers and 47% were unable to find qualified candidates. 

Janet Yellen begins her two-day Humphrey-Hawkins testimony to Congress. There probably won't be much in the way of market-moving headlines, as I suspect the focus will be on deregulation and changes to Dodd-Frank. Any references to monetary policy should pretty much echo the Feb 1 FOMC statement. 

PIMCO is warning investors to be prepared if the Fed makes a mistake by tightening too fast. Historically central banks have moved a little too quickly trying to bring back rates from the zero bound (or close to it). In fact, the Bank of Japan has tried twice since their 1989 crash to get off the zero bound and has had to reverse course each time. The markets are currently forecasting a 30% chance of a Fed hike at their March meeting. The risk isn't so much that the current board of governors will move to fast - it is that Trump nominates hawks. That said, no politician likes a hawkish central bank except on the campaign trail, so that fear could be overblown. 

Richmond Federal Reserve Bank President Jeffrey Lacker (nonvoting) said the markets are underestimating the pace of Fed rate hikes this year. ""Rates need to rise more briskly than markets now seem to expect. The elevated uncertainty now surrounding fiscal policy, particularly the potential for substantial fiscal stimulus, suggests that our next increase should come sooner rather than later in order to reduce the risks associated with having to raise rates more rapidly later on." The way things are looking in DC, it seems pretty unlikely we are going to see any sort of cooperation on anything, least of all a tax cut. 

It bears repeating that interest rate cycles are long. Coming out of the Great Depression, long term Treasury rates stayed below 3% from 1934 to 1956. Below is a chart going back almost 100 years. Long term rates are pretty much around the levels we saw in the 1940s. Note the uptick in interest rates around 1932. That was the Fed tightening that pushed the economy over the edge during the Great Depression. The Fed didn't make the same mistake this time around, which is probably the biggest reason why the Great Recession didn't become the Great Depression II. Ironically, it took Ben Bernanke to officially admit that the Fed screwed up in the 30s. 

Completed foreclosures fell 40% year-over-year in December to 21,000. The foreclosure inventory is down 30%. The seriously delinquent rate is 2,6%, which is the lowest since June 2007. Foreclosures remain concentrated in the judicial states of NY and NJ. The rest of the country has pretty much worked through their foreclosure inventory. 

Real estate agents are optimistic for 2017, according to NAR. Changes in the FHA rules for condos is helping. 

Regulators put the kibosh on a strategy by JP Morgan and Redwood to help ease the path for private label securitizations. The idea was for JP Morgan to create a junior structure which contained the riskiest mortgages, sell off that piece to Redwood, and to retain the senior tranches. The hope was that this would reduce the amount of capital JPM would be required to keep against the mortgages. The OCC rejected the deal. 

Morning Report: Janet Yellen goes to Capitol Hill this week

Vital Statistics:

	Last	Change
S&P Futures	2318.0	5.3
Eurostoxx Index	369.8	2.4
Oil (WTI)	53.4	-0.4
US dollar index	91.1	0.2
10 Year Govt Bond Yield	2.44%
Current Coupon Fannie Mae TBA	102.1
Current Coupon Ginnie Mae TBA	103.2
30 Year Fixed Rate Mortgage	4.06

Stocks are higher this morning on no real news. Bonds and MBS are down. 

No economic data this morning, but we will get some inflation data this week with the consumer price index and the producer price index. Janet Yellen also delivers her 2 day Humphrey-Hawkins testimony on the Hill on Tuesday and Wednesday. My hunch is that monetary policy will take a backseat to banking regulation as the main subject of questioning. Note that top Fed banking regulator Daniel Tarullo has announced his resignation. Tarullo was viewed as a tough regulator (and was disliked by the industry for opacity and for changing the rules in the middle of the game. GE executive and former deputy to Hank Paulson David Nason is the front-runner to replace Tarullo. 

Donald Trump will get to fill 3 Federal Reserve Board governorships (maybe 4 as Lael Brainard is rumored to be resigning as well). It is unlikely that he will go with nominees in the mold of Janet Yellen and will choose business leaders instead of academics to fill those seats. While Trump criticized the Fed on the campaign trail as keeping rates too low for too long, there isn't a politician on the planet that likes a hawkish Fed. In fact, if Trump is successful in making big fiscal changes to the fiscal situation in DC, then he may prefer to have a more dovish Fed to keep rates low. 

Foreign investors are dumping Treasuries, although this has been going on for almost a year, so it is hard to characterize it as Trump-related. Foreign selling has been absorbed by US domestic money managers, which has lowered the impact. Ultimately, the Fed is probably driving it: While the Fed sees the light at the end of the tunnel for QE and extraordinary stimulus, the ECB and the Bank of Japan are still in the middle of it. While the US has some of the highest yields in the world, it is at the biggest risk of a big bond market sell-off. The cost to foreign investors in hedging the US currency is also extremely high. For example, a Japanese money manager isn't getting 2.44% when they buy a Treasury. It turns out to be around 90 basis points when you add in hedging costs. 

Treasury Secretary nominee Steve Mnuchin looks like he will get past the Senate today. 

The Washington Post has a good run-down on potential changes to Dodd-Frank. Overall, the reforms center on the Volcker Rule, the CFPB, and small banks. The paper obtained a memo from Jeb Hensarling which discussed some of the reforms. The biggest component is the financial CHOICE act, which allows banks an exemption from some of the Dodd-Frank restrictions (think prop trading) if they raise more capital. The CFPB would continue to be run by a single director who could be fired at will by the President. It will also have some restrictions on rule-making and enforcement, making it look more like the Federal Trade Commission. The CHOICE act probably has enough votes to clear the House, but getting it through the Senate will be a challenge. 

Professional economists are still scratching their heads over the lack of wage growth in the economy. If we are truly at full employment, the laws of supply and demand say that wages should be increasing. This is the biggest driver for the Fed, so getting it right is important. If the Fed tightens in expectation of wage inflation that was never going to arrive in the first place, they could choke off the recovery. The Bank of Japan made the same mistake twice since 2000. My sense is that the term "full employment"is a misnomer. Yes, we are at full employment according to the Bureau of Labor Statistics, but that is because we no longer count the unemployed once they hit 6 months without a job. They are still unemployed, however and that shadow inventory of workers colors the mindset of both workers and employers. 

There is some concern about Ben Carson as the leader of HUD, and what he intends to do with respect to affordable housing. Carson doesn't have a large body of work discussing housing policy, however he has made some contradictory statements, referring once to efforts by HUD to change local zoning laws as "social engineering" yet mentioning local regulatory impediments to housing affordability in his testimony to Congress. What these regulatory impediments are is anyone's guess. They could be zoning restrictions, environmental restrictions, or even things like open space requirements. Obama's HUD was very aggressive in suing localities to change their zoning laws, and we will have to see if that continues. Overall, the Federal government doesn't have a lot of influence over local zoning rules. and has gotten nowhere in ultra-blue Westchester County NY, even with the the carrot of Federal housing money and the stick of lawsuits. 

Morning Report: The Trump reflation trade is back

Vital Statistics:

	Last	Change
S&P Futures	2307.0	2.8
Eurostoxx Index	366.8	0.0
Oil (WTI)	53.9	0.9
US dollar index	91.2	-0.1
10 Year Govt Bond Yield	2.42%
Current Coupon Fannie Mae TBA	102.1
Current Coupon Ginnie Mae TBA	103.2
30 Year Fixed Rate Mortgage	4.06

Stocks are following through on yesterday's strength. Bonds and MBS are down small.

President Trump made some comments about corporate tax reform which brought back the Trump reflation trade, at least for a day or two. While everyone agrees we need corporate tax reform, in practice it is going to be a lot harder than it looks, simply because almost everyone has some sort of tax break they don't want to give up. An undertaking this big will also need some things to bring Democrats onboard, so it will probably be watered down. Initial price talk is a corporate tax rate of 20%, with an exemption on overseas earnings, and some sort of border adjustment tax. As you can imagine, some industries will love this new arrangement, while others will hate it. 

Import prices rose 0.4% last month and are up 3,7% YOY. Ex petroleum, they are down small. We will be getting more inflation data next week with the consumer price index and the producer price index. 

Consumer sentiment slipped in the preliminary reading for February. It came in at 95.7 after a January reading of 98.5. The drop was almost 100% in the future expectations index, as the current conditions index was more or less flat. Perceptions of Donald Trump and his effect on the economy was pretty much split: 30% favorable, 29% unfavorable. 

A top Fannie Mae official (Brian Brooks) is reportedly being considered to replace Richard Cordray as Director of the CFPB. Another possibility is Todd Zywicki, an economist with the Mercatus Center. Discussions are preliminary as the future of the CFPB remains up in the air. 

The Mortgage Bankers Association plans to lobby Congress to turn the GSEs into private utilities and allow new entrants to compete on the same terms, meaning their securitizations will have a government backstop as well. Partisan politics will be an issue, as Republicans want to government backstop to become smaller, and Democrats worry about the social mission of the GSEs falling by the wayside. 

The Spring Selling season is more or less beginning now, and tight inventory remains the biggest issue. A second problem is mismatched markets, where there is a disconnect  between what buyers want and what is available for sale. Affordable starter homes are the biggest problem, as builders have focused on the luxury end of the market since 2008. Luxury was the only segment that worked for builders post-crisis, but 10 years on, the boomers that bought McMansions are looking to downsize, and the Millennials are beginning to start families. 

Millennial women are more likely to use FHA loans than men. Not sure why - it could be any number or reasons: income, education, lenders highlighting them more. Worth watching, however. 

Realtor.com has some good advice for the first time homebuyer. Hint: you don't need 20% down. 

Morning Report: Trump makes a subtle but important regulatory change

Vital Statistics:

	Last	Change
S&P Futures	2295.3	2.3
Eurostoxx Index	363.7	0.9
Oil (WTI)	52.8	0.6
US dollar index	90.7	-0.1
10 Year Govt Bond Yield	2.36%
Current Coupon Fannie Mae TBA	102.1
Current Coupon Ginnie Mae TBA	103.2
30 Year Fixed Rate Mortgage	4.13

Stocks are up marginally on no real news. Bonds and MBS are down small.

Initial Jobless Claims came in at 234k last week, which is the lowest number since November. Note that the last time initial jobless claims were this low, the Vietnam War was being fought. When you adjust for population growth, we are at record levels. Note that Census has been revising downward its previous estimates for population, as the net immigration numbers have turned out to be lower than initially thought. 

Here is the chart for initial jobless claims:

And now initial jobless claims divided by population (in .000s). Record low.

We have some Fed-speak today with James Bullard this morning and Charles Evans in the afternoon. Probably won't be market moving, but be aware.

The latest trend in banking? People-less branches. You walk in and deal with someone via videoconference. “This is the beginning of the end of the American bank branch,” said Peter Fitzgerald, a former U.S. senator from Illinois, lifelong banker and founder of Chain Bridge Bank in McLean, Va. “Bank branches are dead. They were killed by the iPhone. It’s like the horseshoe when the automobile came along.” Indeed, the iPhone is changing mortgage banking as well, as the Millennial Generation prefers to not interact with humans.

Once of the changes Donald Trump is making to financial regulation is subtle, but important. Typically regulators have to conduct a cost-benefit analysis of new regulations, in order to determine whether the proposed regulations do more harm than good. That requirement was largely ignored by the Obama administration. He is bringing that requirement back, which would require the government to take into account things like restrictions in credit, lost GDP from less lending, and the impact on consumers and financial choice. In fact, a study from Goldman found that low income borrowers and small businesses bore the greatest cost of financial regulation. 

While regulation is couched in terms (and intention) to be about public protection, in practice it often acts as a barrier to entry which restricts competition rather than something that benefits the public. In fact, restricted credit is only of the big things that is an issue in housing construction. Big publicly-traded homebuilders can borrow all the money they want in the bond market at exceptionally low rates, while smaller builders (who are banked by the smaller guys) cannot borrow because the smaller banks are hamstrung by the regulators. Remember, we haven't had a 1.5 million year in housing starts (which was normalcy from the sixties until the crisis) since 2006.