Morning Report: Possible government shutdown?

Vital Statistics:

	Last	Change
S&P Futures	2801.3	12.5
Eurostoxx Index	399.0	1.2
Oil (WTI)	63.9	-0.4
US dollar index	84.6	0.2
10 Year Govt Bond Yield	2.54%
Current Coupon Fannie Mae TBA	101.75
Current Coupon Ginnie Mae TBA	102.875
30 Year Fixed Rate Mortgage	4.03

Stocks are higher this morning as on overseas strength. Bonds and MBS are up small. 

Not a lot of market-moving data this week, however we do get housing starts and the FHFA House Price Index. Bank earnings will dominate the releases this week. 

The Empire State Manufacturing Survey came in a little weaker than expected, but was still pretty strong. Employment-related indicators (number of workers and average workweek) decelerated a touch, however the inflation indicators (both prices paid and prices received) increased. The bond market seems to be taking the inflation data in stride. 

The big thing this week will be a continuing resolution to keep the government open. The government will shut down if a budget deal isn't reached by Friday. Democrats are holding out over immigration. Republicans are weighing another short-term funding measure that will last until mid-February. 

So far, it looks like the meta-issue for 2018 will be inflation. Numerous companies have announced wage increases in response to the tax bill, and some states have raised the minimum wage. Commodity prices remain firm (especially food and energy). In order to really get inflation, we need wage inflation and so far we haven't really seen a lot in the BLS numbers. That said, with all the company announcements over raises this could be the year. 

Dallas Fed President Robert Kaplan believes we are going to "overshoot full employment" and he thinks we will need to see 3 rate hikes this year. His personal GDP forecast is 2.75% growth. "The history of overshooting full employment in this country has not been a happy one," he added. "Normally, what happens is you get an overheating, the Fed has to play catch up, and what happens then is you tend to often have a recession." Historically (post-Great Depression) that has been the case: the economy grows, inflation starts, and the Fed causes a recession to beat back inflation. That model probably works 90% of the time, but post-bubble economies are different, and have longer (and shallower) recoveries. The excesses of the bubble years may have been worked off, however the psychology of the bust instills a risk-aversion on the part of the business community that isn't necessarily conducive to inflation. Japan has been trying to create inflation since the early 90s and they still haven't been able to do it. The US isn't necessarily Japan, however the Japanese experience shows that the usual economic playbook goes out the window after asset bubbles. 

The black swan for US inflation? The bursting of the Chinese real estate bubble. This will be a drag on overall global growth and commodity demand. 

Morning Report: Congress cracks down on serial VA refinancings

Vital Statistics:

	Last	Change
S&P Futures	2769.0	-0.5
Eurostoxx Index	397.5	0.2
Oil (WTI)	63.2	-0.6
US dollar index	85.3	-0.2
10 Year Govt Bond Yield	2.58%
Current Coupon Fannie Mae TBA	101.75
Current Coupon Ginnie Mae TBA	102.875
30 Year Fixed Rate Mortgage	4.01

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

Inflation on the consumer level continues to be under control, according to the Consumer Price Index. The headline number was up 0.1% MOM and 2.1% YOY. The core rate, which excludes food and energy) was up 0.3% MOM and 1.8% YOY. Housing and medical costs drove the increase in the rate. 

Retail Sales were up 0.4% in December, which was a touch below expectations. The control group was up 0.3%, which was in line with expectations. The MOM numbers may seem low, however November was exceptionally strong. 

Robert Kaplan said the Fed has upped their 2018 economic forecast to 2.5% - 2.75%. The current estimate is at 2.5%. After having been too high in their GDP estimates for 9 years, the Fed finds itself in the position of consistently being too low. 

The two year bond yield topped 2% for the first time since the financial crisis. The 2 year is much more sensitive to the Fed Funds rate than the 10 year is, and is part of the reason why we are talking about a yield curve flattening and what it means. A common narrative these days is that the yield curve is flattening (that is, the difference between long-term rates and short-term rates is falling) and that signals a recession. That could be the case if the Fed tightens more aggressively than they are now, however they are going at such a slow pace that it probably won't knock the economy into a recession. Plus there is so much pent-up demand from the last 10 years that a lot of the necessary pieces for a recession simply aren't in place. 

Where do we stand with the market's prediction of rates? The Fed Funds futures are now pricing in a 73% chance of a 25 basis point hike in March. This is up from 59% a month ago. 

Wells Fargo reported higher earnings, however part of that was due to a one-time benefit due to the tax bill. On the mortgage side, originations came in at $53 billion for the fourth quarter, down 10% QOQ (largely explained by seasonality) and down 26% from a year ago. Margins were up a basis point from the third quarter and were down 43 basis points from a year ago. 

The Administration and the Senate continue to work on hammering out a deal on funding the government. The current continuing resolution expires in a week, and Democrats are holding out for an immigration deal in order to sign off on a new CR. It is still too early to predict a shutdown, but remember that a shutdown will affect the IRS and getting tax transcripts. Plan accordingly. 

Washington is looking to do something about serial VA refinances.  Many veterans were refinancing their mortgages (and adding to their principal by folding in the funding fee) for a de minimus drop in monthly payment. The Protecting Veterans from Predatory Lending Act of 2018 will make the following changes to VA lending. 

• A lender may only submit a refinance loan for VA insurance if it certifies that all fees associated with the refinance would be recouped through lower monthly payments within three years;
• A lender may only receive VA insurance for a refinance loan if the refinance loan has a fixed rate 50 basis points lower than the earlier fixed-rate loan (or 200 basis points lower if the new refinanced loan is an adjustable rate mortgage).
• A lender may only receive VA insurance or get a Ginnie Mae guarantee for a refinance loan if the refinance comes more than six months after the initial loan.   

At the margin, this legislation is bullish for Ginnie Mae TBAs and Ginnie Mae servicing, which should translate into better FHA and VA rates going forward. 

Morning Report: Incomes and spending rise

Vital Statistics:

	Last	Change
S&P Futures	2362.3	-2.3
Eurostoxx Index	380.3	-0.2
Oil (WTI)	50.3	-0.1
US dollar index	90.5
10 Year Govt Bond Yield	2.42%
Current Coupon Fannie Mae TBA	102.06
Current Coupon Ginnie Mae TBA	103.36
30 Year Fixed Rate Mortgage	4.13

Stocks are lower this morning as investors take some profits after a good quarter. Bonds and MBS are flat.

Personal Incomes rose 0.4% MOM while consumer spending rose 0.2%. The savings rate increased 0.2% to 5.6%. The PCE Index (the Fed's preferred measure of inflation) rose 2.1% YOY, while the core index, which strips out some volatile commodity prices rose 1.8%. 

The Chicago PMI Index rose slightly in March as new orders rose and employment fell. 

Consumer sentiment retreated slightly in March, according to the University of Michigan Consumer Sentiment survey. Note that the spread between the "soft" economic data (like sentiment indices) and the "hard" economic data (like actual spending numbers) has never been higher. This is probably being driven by expectations of regulatory relief.

Dallas Fed President Robert Kaplan is worried about Washington and the effect policy will have on consumer spending. The fear is that any sort of protectionism via a cross-border tax or policies that could increase health care inflation would crimp spending, especially for older folks. Of course there is a demographic effect happening as well - older people tend to spend less. Their kids are still just starting out, but they will hit their peak spending years soon enough. And before everyone starts wringing their hands over the savings rate, it is still pretty low by historical standards:

Want a good statistic to demonstrate how tight the housing market is? 57% of all realtors have been involved in a sale with at least 10 offers on a single property in the past year. In fact, only 2% have not experienced a bidding war in the last year. We are starting to see home sales contingent on the seller finding a place to buy.  This is part of the problem for the first time homebuyer: The move-up buyer can't find (or afford) a better place so they are staying put. 

William Dudley of the NY Fed prefers the Fed go slowly in reducing the size of its balance sheet. So far, the consensus is that the Fed will just let maturing bonds roll off and not re-invest those proceeds back into the market. Dudley wants to be even more cautious than that, and taper the re-investment, which would mean they would start by reinvesting only half of maturing proceeds back into the market, and then stop altogether later. Regardless of how the Fed handles it, any sort of balance sheet change should have a minimal effect on MBS spreads. If QE had a de minimus effect on spreads then ending the reinvestment policy should have little to no effect. Note Dudley is also concerned about the effect this will have on long term rates, which could restrict credit.