January 15, 2010 — Now that the holiday season is behind us, the resumption of more regular activity will again start to reveal how the market perceives prospects for growth and inflation. If the stock and bond markets movements this week were any indication, there has been some fading of optimism about growth and concerns about inflation.
Of course, that’s to the benefit of mortgage rates; potential homebuyers and wanna-be refinancers should pine for poor economic news (at least until their transactions have borne fruit).
The overall average for 30-year fixed-rate mortgages tracked by HSH.com’s FRMI shed eight basis points (0.08%) as the overall indicator of the costs of conforming, jumbo and expanded conforming mortgage loans closed the week at 5.46%. The FRMI’s 5/1 ARM counterpart eased by better than an eighth-percentage point, stopping its fall at an average 4.68% for the period. Conforming 30-year FRMs ticked back again, and jumbo 30-year mortgages rang in at a flat 6%.
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We fielded some questions this week about the potential for the Fed to maintain its planned exit from MBS purchases, slated for the end of March. As evidenced by the minutes from the December FOMC meeting, it’s apparent that the Fed isn’t certain just what they’ll do yet, either. If or when the Fed exits, some analysts expect an increase of up to a full percentage point in rates, but we’re not among them.
Briefly, here’s why we think otherwise: 1) The Fed’s purchases are serving to help keep rates low by absorbing MBS supply that the private market cannot or will not buy; 2) if the Fed exits, the additional supply might overwhelm remaining demand, causing a rise in interest rates; 3) that rise in rates would strongly curtail refinancing (and possibly some homebuying) activity, limiting the amount of new MBS supply the private market will need to absorb; 5) this falloff in new MBS supply means that rates might not rise as much as some fear, since the private market may be able to more easily digest it.
There are other considerations, too, including administration and regulatory pressures which might cause banks to step up their purchases of MBS, and ways that poorly-performing loans might be able to be sold to Fannie Mae or Freddie Mac (now that their loss limits have been removed), freeing up new cash to spend on today’s better quality MBS, among others. Ultimately, the Fed needs to get out of the MBS business, and we’re of the mind that they would prefer to do so sooner rather than later.
The economy continues to show muted signs of weak life, with few indications that the fog of recession is lifting quickly, the technical recovery being what it is.
Retail Sales for December failed to live up to expectations. While better overall than a truly bleak year-ago period, there was a 0.3% decline in spending for the month, and a like decline in “core” retail spending which excludes auto and gas station sales. November’s figure was revised considerably higher, to a gain of 1.8%, lending additional credence to the belief that holiday shopping started early this season. While the recession is of course to blame for the weak outlay, price discounting may have had an effect, as well, and the total of the retail season must also include whatever happens this month, when gift card redemptions start to occur.
Daily FRMI rates are available on HSH.com.
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The Fed’s latest survey of regional economic conditions found weak conditions overall, but 10 of 12 Federal Reserve districts reported at least some improvement in economic activity, up from eight in the previous report. “While economic activity remains at a low level, conditions have improved modestly further,” noted the Fed, but there is still a litany of issues detailed in the report, including labor weakness, loan quality and demand, and others. Driven by inventory building after a long period of stockpile slashing, manufacturing continues to be the bright spot.
Stockpiles are starting to be rebuilt. In November, the overall measure of inventories at business of all stripes rose by 0.4%, the second consecutive such rise and one which seems to put a firm end to the long string of negatives which began in August of 2008. Since final demand by consumers and businesses has stopped plummeting or even nudged higher, businesses have more confidence about holding onto goods; even with the increase in inventories, firming sales have kept goods on hand relatively lean.
Calls for more goods are serving to firm activity for manufacturers as well as driving up imports to some degree. A measure of manufacturing activity in New York State flared higher in January, rising from a soft-but-positive reading of 2.6 in December to one of 15.9 in January, and lent hopes that more positive readings would be seen elsewhere for the month, too. Firming demand led to a widening in our nation’s imbalance of trade, which expanded to $36.4 billion in November. While export growth moved 0.9% higher, imports leapt by 2.6%, a signal that consumer spending is firming to some degree. Before the recession, the spread between imports and exports was hanging in the $60 billion range, fueled by strong imports and high oil prices but collapsed to the lower $20 billion range at the depths of the recession.
If prices were rising, this might also serve to expand the trade deficit. However, there was no overall change in import prices for December, which were tempered down to that level by sliding costs for petroleum products. Leaving them out, other goods registered a 0.5% increase for the month, while overall export prices moved 0.6% higher. Even with the flat headline reading for the month, import prices stopped a deep retreat months ago and are now rising at 8.6% annually. Our ability to export any inflation is more limited, but outbound prices are still rising at a 3.4% clip.
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Sources: FRB, OTS, HSH Associates.
Consumer inflation is firm but not worrisome just yet, either. In December, overall prices paid rose by a scant 0.1%, about half the expected increase. “Core” inflation, so called because it excludes unpredictable food and energy costs, also rose by a like amount. Over the past year, headline prices have risen by 2.8% for consumers, but just 1.8% at the core, with both figures near what are thought to be working targets for the Federal Reserve. It’s likely that the Fed would allow inflation to run slightly “hot” for a time, provided that there is plenty of unused capacity and “resource slack” in labor markets.
While Industrial Production did move 0.6% in December, that gain was solely due to rising utility output related to a cold-weather outbreak across sizable parts of the US. Manufacturing output eased slightly during the month (0.1%), but mining activity bumped a like amount higher. The percentage of factory floors in active use moved up again, landing at a flat 72% for the month. Inflation-enhancing bottlenecks in production generally won’t occur until we’re past the 80% mark, and at the present rate of increase, that won’t be a worry for some time to come.
Labor “resource slack” continues to increase somewhat. In perhaps the first week unaffected by major seasonal distortions, first-time claims for unemployment benefits cam in at 444,000 for the week ending January 9. We speculated a few weeks ago that the pre-holiday trend suggested a rate of perhaps 450,000 and it looks as though that’s turned out to be a pretty close reckoning. Overall, the trend has been one of gentle decline, and that seems likely to continue to be the case. Positive job growth isn’t yet happening on a regular basis, but layoffs continue to abate to some degree, and that’s a positive trend in its own right.
No such improving trend is evident in consumer moods. After starting the year at a 15-month high, post-holiday blues (and/or bills) saw the ABC News/Washington Post index of Consumer Comfort drop by six points, landing with a thud in the middle of a long-standing range at a reading of -47 for the week ending January 10. The University of Michigan’s survey of Consumer Sentiment moved just 0.3 higher in its preliminary January reading, managing to hold for the moment December gains.
For their part, mortgage rates managed a little additional slide this week, and have now recovered about one-third of their December-January increase. It’s fortunate that the lift in rates came during the week between Christmas and New Year, but that it remained in place through last week probably put some refinancing and purchase decisions on hold temporarily. As we think it increasingly unlikely rates will continue any significant decline, the dip in rates last week and this should be an opportunity for those who waited.
Next week features a Federal Holiday on Monday, and even after that there’s a fairly light economic calendar. We will get some looks at the December housing market and a few other items of importance, but there doesn’t seem to be an economic report which might cause a measurable firming for rates in the week ahead. With a downward tenor to stocks and a rally in bonds to close this week, mortgage rates will likely shed a couple more basis points by this time next week.
It’s never too late to look ahead. If you’ve got a couple of minutes, you should check out our 2010 Outlook for Mortgage Markets and Rates. It covers what we think are the ten most important considerations for the market next year.
Our latest two-month forecast offers our predictions for the immediate future.
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