April 8, 2011 — Rising prices can be a great thing, provided you are holding an asset which is increasing in cost. If you’ve got a store of gold you bought some time ago, you are thrilled about record-high gold prices. If you have certain holdings in oil or silver, you might consider yourself fortunate. Since the lows of a couple of years ago, certain stocks have risen considerably in value, to the benefit of investors. Rising asset prices can generate wealth.
But price increases have a serious downside, too. If costs are rising throughout the economy (inflation), the buying power of a given income can be considerably diminished. Even when price increases are narrowly defined, rising costs for everyday basics like food and gasoline can affect consumer spending patterns as they absorb increasing portions of discretionary spending dollars. Without money to distribute more widely throughout the economy, consumer spending may still show an increase in total outlays, but there is little wide-ranging economic benefit from that spending, and a slowing of economic growth can occur as a result.
Rising interest rates can also be a two-edged sword. The party lending money welcomes the chance to see profits improve from higher yields, while the party borrowing funds isn’t nearly as thrilled. At times, even a minor rise in interest rates can be a deterrent to refinancing and make affording a home that much more difficult. In turn, this tends to damp demand, subtracting from any economic momentum. Mortgage rates have been favorable, but are now on a slightly firming path.
HSH.com’s overall mortgage tracker — our weekly Fixed-Rate Mortgage Indicator (FRMI) — found that the overall average rate for 30-year fixed-rate mortgages remained unchanged this week at 5.17% as a three basis point rise (.03%) in 30-year conforming rates was offset by a four basis point decline in 30-year FRM jumbos. A key component of the first-time homebuyer market and perhaps threatened by a federal government shutdown, FHA-backed 30-year fixed-rate mortgages rose by four basis points to land at 4.85%. ARMs are starting regain at least some favor in the market, and Hybrid 5/1 ARMs, perhaps the most preferred alternative to the traditional 30-year FRM (notably for jumbo buyers) increased a one one-hundredth of a percentage point (.01%) to stand at 3.85%
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After the financial market meltdown, central banks across the globe pushed hard to reflate assets, since their collapse in prices — stocks, real estate, commodities, what have you — threatened to turn a recession into a depression. We may be starting to see the results of those reflation campaigns, which may not turn out so well in the long run. Over the past 18 months or so, the market’s focus has shifted from one of immediate crisis management to one more comfortable looking forward, and the way forward looks anything but serene at this point.
Things may get a little dicey in the months ahead. Oil isn’t at a record just yet — the near $150/bbl of a couple years ago is still the champ in that regard — but that spike contributed strongly to the recession which followed, since it vacuumed billions of dollars a day from consumer wallets. This latest oil increase may not run that high, but gasoline prices seem likely to push toward record levels, even if the input commodity cost doesn’t make it there. As a result, it would appear that most if not all of the benefit from the change in payroll withholding which began in January will be absorbed by the gas tank, leaving broad economic benefit by the wayside.
A economic disruption of another kind may also occur, should a budget compromise not be reached. A government shutdown would distort all manner of government spending until resumption, and might skew data collection efforts and more as Federal workers step away from their jobs, however temporary that pause might be. There was even been a suggestion or two that this might delay implementation of the new financial rules under Dodd-Frank, some of which are creating their own stir in the mortgage market at the moment, what with risk retention and the concept and definition of a Qualified Residential Mortgage (QRM) up for public commentary. At the moment, it would appear that any shutdown would affect only the FHA program, which does directly rely on the government for backing.
HSH has several lengthy series of statistics dating back to the 1980s for FRMs and ARMs, Conforming, Jumbo and FHA products. These can be licensed for use — interested parties should inquire here.
Minutes of the Federal Reserve’s latest Open Market Committee meeting were released this week. Back on March 15, the Fed considered “that the economic recovery continued to proceed at a moderate pace, with a further gradual improvement in labor market conditions. Sizable increases in prices of crude oil and other commodities pushed up headline inflation, but measures of underlying inflation were subdued and longer-run inflation expectations remained stable.” At the same time, “The pace of economic activity appeared to have been a little slower around the turn of the year than the staff had anticipated at the time of the January FOMC meeting” and discussion of the effects of rising price pressures were seen throughout the Fed Staff Economic Outlook portion of the minutes. Meeting participants also noted that “rapidly rising commodity prices posed upside risks to the stability of longer-term inflation expectations [...], even as they posed downside risks to the outlook for growth in consumer spending and business investment.”
While the recovery seems likely to be able to withstand these items, that’s not to imply that there is or will be no effect. Growth is already barely strong enough to generate new hiring, even as layoffs trend gently downward. During the week ending April 2, another 382,000 applications for unemployment benefits were filed at state windows, and while that number is much improved from the worst levels, it is declining only very slowly, indicating a still-tenuous labor situation.
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That the present economic climate isn’t overly rosy was also noted in the latest report covering service-related businesses from the Institute of Supply Management. Late to join the recovery, and only posting a stronger upward trend for the past few months, the largest portion of the economy suffered a little bit of a setback in March; the ISM’s indicator fell back by 2.4 points to 57.3, a level roughly equivalent to December 2010. Activity and importantly employment trends regressed last month, so while layoffs are gently declining there remains little indication of much new hiring, either.
With many challenges facing them, consumers remain reluctant to make the kinds of commitment to taking on new debt that would also serve to power the economy forward. Consumer borrowing has expanded mildly in each of the last five months, but the majority of that borrowing has been to finance automobiles and such. During February, consumers took on an additional $7.6 billion in debt, all in the installment category. Excepting a $2B uptick in holiday-related usage, revolving credit card usage has been in a long retreat, with balances declining month after month.
Also indicative of a slowing, stockpiles of goods at firms between the manufacturer and retailer expanded by a full percentage point in February. A 0.8% decline in sales at wholesaling firms during the month came on the heels of a 3.3% gain in January, but a ballooning of goods unsold on shelves necessarily precludes the need to place new orders with upstream manufacturers.
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Sources: FRB, OTS, HSH Associates.
It seems to us that we are likely to find ourselves in a period of softer economic growth with generally firming prices. While not a disaster in and of itself, the rate-lifting increase in inflationary pressures seems likely to overcome the rate-reducing economic drag of the higher prices they track, at least for a time, and those higher rates do threaten to some degree hopes for a improving housing market this Spring. As such, potential buyers would do well to take advantage of any small dips in rates which may occur.
That firming mortgage rates are unwelcome in light of the weak state of the housing market is a given. Refinance activity has come to a fair standstill again and is down by about 13% over the past four weeks, according to the Mortgage Bankers Association of America index of applications. Conforming 30-year fixed rates are about a quarter-percentage point lower than at the same time last year, but both refinances and purchase applications are materially lower now than then. The housing market remains far from normal, and there is little sense of urgency among purchase borrowers at the moment, as would be expected in a still deflating market. With some 25% of the nation’s homeowners underwater, there remains a vast but unservable potential refinance market, one which may be many years away from again participating in the mortgage market.
That said, at least one sign of improvement in the market comes in the form of the differential between fully government-supported conforming rates and true, private market jumbo (non-conforming) rates. Pre-financial crisis, about a 20 basis point differential in rates was typical; in the worst of the market mess, that expanded by nine times normal to 180bp at its widest, but has gently retreated over time to a present-day gap of about 60 basis points. Additional narrowing seems possible but unlikely in present market conditions, but an expected increase in competition among jumbo lenders may trim it somewhat over time.
Mortgage rates have nudged higher, and the step-up in underlying interest rates this week suggests more of the same in store for next week. There’s nothing wrong with getting a 5%, 30-year fixed rate mortgage — unless you really need a 4.5% one to make your deal work.
For an outlook which will take you though May, check out our latest Two-Month Forecast.
There’s a lot going on in mortgage markets this spring and beyond. If you missed it, we wrote an outline to get you up to speed. Take a minute and read HSH’s 2011 Mortgage Market Swirl.
One way to keep refinancing activity moving forward is to help underwater borrowers refinance. How? Have a look at our idea — read about HSH.com’s Value Gap Refinance idea, and be sure to let us know what you think.