HSH MarketTrends

Mortgage Rates Up; Economy, Housing Down
New Two-Month Forecast at the new HSH.com

July 30, 2010 — With the deceleration in the economy now quantified, mortgage rates stopped falling this week. As prospects for a speedy recovery begin to fade, and inflation pressures bleed from the system, interest rates are less likely to find reasons to rise anytime soon.

Each week for some 30 years, HSH has produced an overall mortgage monitor — our our Fixed-Rate Mortgage Indicator (FRMI). The FRMI includes rates for conforming, jumbo, and most recently the GSE’s “high-limit” conforming products and so covers much of the mortgage-borrowing public. This week, the FRMI remained in record-low territory even though it lifted by two basis points (.02%) to 4.92%. For borrowers for whom a long-term fixed-rate mortgage doesn’t fit the bill, the next-most popular choice is the hybrid 5/1 ARM, which finished the survey week at 3.92%.

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The advance report for Gross Domestic Product for the second quarter of 2010 was released on Friday, confirming suspicions of a pronounced slowdown since the 5% (revised) GDP rise in 2009’s fourth quarter. The advance reading of 2.4% was a little weaker than expected, but perhaps even more unexpected was the full 1% increase in the revised Q1 GDP report, now lifted to a gain of 3.7%.

Of course, even that revised figure brings little enthusiasm, since the pattern now reads 5%, 3.7%, and 2.4% for the last three quarters, a discomfiting trend. Losing 1.3% of GDP output for back-to-back quarters means there is little momentum for the recovery, and further challenges our ability to to get back to a fully-performing economy anytime soon.

The Fed’s latest survey of regional economic conditions (called the “Beige Book” for the color of its cover) revealed that “Economic activity has continued to increase, on balance, since the previous survey,” but the summary of the report included characterizations of the present increases in activity as “modest.” Of the twelve Fed districts, two reported slower growth while two reported steady conditions, leaving the remaining eight to detail at least some localized economic improvement. Of note is that “Nearly all Districts reported sluggish housing markets”. At least four expect declining home sales going forward with diminished prospects for a rebound in residential construction anytime soon.

New Home Sales for June rang in with a 24% increase, a great headline figure. However, that jump came off of the worst-ever (since 1963) reading for sales, and so represented only the second-worst level on file. May’s figure was revised down to a new low of 270,000 units, while June’s rebound took us up to 330,000 annualized. With the boost in sales, supply levels slipped to ‘just’ 7.6 months, and another 3,000 units came off the “built and ready for sale” market, which now has only 210,000 left (peak was mid-500,000 units a couple of years ago). Slowly, new home demand is coming into line with available supply, but there’s no building boom in the near future.

That the recovery has faltered was also revealed in the latest National Activity Index for June. This composite of 85 economic indicators had sported positive readings in four of five months this year, but slipped back below its breakeven point to a -0.63 mark for the month. The NAI gauges whether the economy is growing above or below its “potential,” thought to be about 2.8% of GDP or so. With the GDP report as verification, we’re running below that point right now with perhaps some additional headwind.

The slowing economy continues to sap optimism. All measures of consumer moods have turned darker lately. The final July reading of Consumer Sentiment from the University of Michigan slumped by 8.2 points, finishing the month at 67.8, dropping us back to November 2009 levels. The Conference Board’s review of Consumer Confidence shed 3.9 points, closing at 50.4 for the period, with all of the decline coming from the ‘future expectations’ portion of the survey. As well, the weekly ABC News/Washington Post poll of Consumer Comfort continued its latest retreat, dipping by three points to a reading of minus-48 during the week ending July 25. No matter the measurement tool, attitudes are not showing the kind of improvement which bodes well for the economy — or for the party in power — in the upcoming mid-term elections.

Employment gains — or even just a growing sense that one’s job is no longer at risk — lie at the heart of these troubled outlooks. Confidence in your elected leaders’ ability to generate the kinds of policies which promote job growth is likely another factor, and in this regard, there’s little coming from the Obama administration to promote job growth outside of the public sector. Weekly initial unemployment claims — new layoffs, if you prefer — remain unimproved since early this year, with 457,000 new applications filed during the week ending July 24. To be fair, some of the bleaker moods noted above are probably related to the interruption in unemployment benefits earlier this month, but even their restoration simply underscores that jobs are non-existent in this recovery.

For those with jobs, incomes are rising modestly. The latest Employment Cost Indicator found a 0.5% lift in the cost of keeping an employee on the books in the second quarter of 2010, with wages rising 0.4%. Benefits cost make up the rest of the equation, and for private concerns their rate of increase slowed somewhat to a 0.6% increase for the period. Over the last year, though, a meager 1.6% gain in incomes was seen, with benefits cost climbing 2.5% over that time. Low costs of keeping an employee on the books can help a business retain profits, and profits can help fuel expansion, which can help produce more jobs… eventually.

Even though Durable Goods Orders declined 1% in June, much of that appeared to be related to aircraft orders. However, excluding them still left an overall 0.6% drop for the month. Deeper into the report, though, business-related spending for durable goods nudged 0.6% higher for the month, a deceleration from recent trends but a fair number nonetheless.

Moving forward to July, though, the latest reports of regional manufacturing activity were mostly improved. Activity in the Richmond Federal Reserve district slipped from a strong reading of 23 to a still-considerable 16 for the month, and the Kansas City Federal Reserve district bounced from a weak 3 to a much-improved 14 for the period. Private purchasing manager surveys in New York and Chicago both notched gains, and employment improvements were noted in three of the four reports. If the second quarter diminishment of growth turns out to be only a pause before a stronger uptick, some additional production-led job growth may start to show before too long.

At one point, long ago in the initial stages of the crisis, it was suggested that the Fed or Treasury was seeking to engineer mortgage rates to about 4.5%, which would save the housing market from ruin. As well, we were led to believe that the stimulus plan would serve to cap the unemployment rate at about 8.5%. Neither has turned out to be correct, as we now have 4.5% mortgage rates (thanks to on-going and emerging crises) and the housing market is still weak and troubled, and an 8.5% unemployment rate would be a marked improvement relative to where we stand today.

Low mortgage rates produce benefit only to those who can access them — namely people with incomes, good credit, equity and more. While some can, many more cannot, because they have no job to produce the income needed to participate in today’s markets. Untold additional numbers have little or no equity in their homes and cannot recast their balance sheets through conventional refinancing means.

These two issues — jobs and underwater homeowners — are the problems which most need addressing if we are to produce a faster economic recovery. Grandiose health care and financial market overhaul mean very little relative to the problems so many face today, and the regulatory and tax uncertainty inherent in such plans are more than likely serving as additional deterrents to to the kind of hiring which would produce a better economic climate.

Until that better economic climate shows, we’ll continue to have low mortgage rates and high unemployment, and continue in this stagnant holding pattern.

On a longer-range note, the Treasury announced it would hold a one-day conference on August 17 to brainstorm the future of the housing and mortgage markets. By January 2011 they will have some working concepts for reforming Fannie Mae and Freddie Mac to present to the Congress. A whole day and perhaps five months to unravel the Gordian knot which is Fannie, Freddie and the whole of government housing policy isn’t nearly enough time to properly reform a system which was built over decades, and there is a considerable danger in doing it wrong or too quickly. The regulatory reform train is gathering speed and uncertain times lie ahead — and uncertainty is, as we have been seeing, not conducive to improving markets.

Next week we get all the big first-week of the month reports, including the ISM manufacturing index, auto sales, income and spending, consumer borrowing and the employment report. We’ll be looking for bright spots but expect to see few coming, and so mortgage rates have little reason to do anything different than they have in recent weeks — decline mildly.

Looking down the road toward September? Take a look at our just-posted Two-Month Forecast.

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