4/6/2018 | Casey Fleming | Interest rates went on a wild ride this week and ended up about where they started. What happened? Well, the bond market – which drives the underlying cost of funds for lenders – hates volatility, and lenders hate it even more. So, even if a volatile stock market drives money out of stocks, it doesn’t all necessarily run straight to bonds, and even if bond yields drop, mortgage rates do not necessarily follow, at least not right away. So what’s roiling the markets?
Economic Reports Week of April 2nd
On Monday the ISM Manufacturing Index came in slightly lower than expected, and February Construction Spending came in much lower than expected, reflecting growth of 0.1% from January, rather than the 0.4% expected. Weather may have affected that number, so by itself it’s not alarming, but it’s not rainbows and sunshine, either.
On Tuesday March Light Vehicle Sales came in higher than expected at 17.5 mm versus 16.8 mm expected. Americans love their cars!
On Monday ADP Employment came in slightly lower than expected, reporting 241,000 new private-sector jobs compared to 246,000 in February. Factory Orders, expected to reflect growth of 1.7%, only went up 1.2%, and that followed a steep decline in January. Maybe the economy is weakening?
On Thursday Weekly Jobless Claims, always a very closely-watched index, jumped from 218,000 the week before to 242,000; a survey of economists had expected 225,000. Was this weather-related?
On Friday March Non-Farm Payrolls showed 103,000 new jobs, compared to an expected 170,000, and February’s extraordinary report at 326,000. The Unemployment Rate remained unchanged, and Hourly Earnings grew at 0.3% for March, as expected.
Overall, it was a week of reports that implied economic growth is slowing down.
But the Big News…
The possibility of a looming trade war dominated the news and the markets this week, creating extreme volatility in stocks but not pushing money into bonds. In the short run, volatility is not good for interest rates. However, if economic reports continue to imply weakening in the economy, that could push money into safe-haven bonds, especially in light of stock volatility. If so, that would drive interest rates lower.
In the chart above you can see that Treasury Bonds (red line) were having trouble finding direction this week, while mortgage-backed securities (blue line) held pretty steady. Investors seem comfortable with this yield, although of course that never lasts.
The Freddie Mac Weekly Mortgage Market Survey (green line) shows that borrowers locked in at lower rates this last week, but remember this measures Thursday through Wednesday, and so reflects rates offered from Thursday of the week before through Wednesday of this most recent week. I expect the coming week’s measure to show a slight uptick or remain flat.
Lender margins, in the meantime, remain fairly low but you can see a slight uptick in the blue line in the chart above. The two opposing tensions here on margins are volatility versus business volume. As we know, lenders hate volatility and raise their margins to mitigate risk in case rates suddenly jump. On the other hand, however, it is bad for them to have production pipelines operating at well below capacity.
When volume goes down, therefore, lenders want to reduce their margins to attract more business. Mortgage application volume is down significantly this year so far, and you can see that tension playing out in this chart. Mortgage lenders would prefer higher margins, but must offer lower margins to keep their staff busy.
If volume does not pick up soon, we’ll start seeing layoffs in the industry. The Big Banks usually start first, so watch for that in the coming few weeks. After the first round of layoffs if market volatility has not calmed down we should see margins rising again.
Monday, April 9th, brings us no major economic reports. This could give us enough of a breather to settle down bond markets if the stock market behaves and no new trade-war news emerges. Expect mortgage rates to improve slightly from Friday’s levels, barring further extreme volatility.
On Tuesday we’ll see the closely-watched Producer Price Index for March, which is expected to show a rise of 0.1% from a rise of 0.2% in February. While this is a backward look at actual inflation, it confirms (or contradicts) what investors have been thinking and could portend inflation at the consumer level in the near future. A reading under 0.2% would be kind for interest rates, over 0.2% would not.
On Wednesday we learn about the reading for the March Consumer Price Index, which is surprisingly expected to be flat. In February consumer prices rose 0.2%. Any reading between these numbers is likely to be viewed as neutral, so even though this is a closely-watched index it should not be a market-mover this month.
However, the FOMC minutes will come out on Wednesday afternoon, giving us a glimpse into the minds of the FOMC individual board members. This could be important, although no surprises are expected. Also on Wednesday we have a very important auction – the 10-year Treasury Note. The demand for new issues will give us strong insight into whether investors are seeking higher yields or are seeking the safety of Treasury Bonds.
Mortgage rates should rise Wednesday morning relative to Tuesday, and then either continue up or settle down based on the FOMC minutes and the Treasury auction results.
Thursday will bring us the closely-watched Jobless Claims, which will be even more important in light of the large number of new claims this last week. Thursday also brings a 30-year Treasury auction, which could also be a market-mover depending on the demand for the bonds.
Friday will bring us reports on Job Openings and Consumer Sentiment.
As an added bonus this week corporations will begin releasing their corporate earnings for the first quarter. Tax law changes and the way tax reporting rules are implemented by various companies could throw confusion into the reports this quarter, but strong earnings could give a boost to the stock market.
Buckle Up for Another Wild Ride!
While we have a number of important events coming up this week, trade wars and administration pronouncements could dominate the news cycle and be a much more important factor than any scheduled economic reports, the anticipated results of which have already been priced into the market.
Nevertheless, news-driven movement is always short term. Looking forward, long-term trends are driven by investors’ expectation of inflation. If new economic reports continue to suggest a slowing economy, expect improvement in the bond market this week and to see rates decline a little further. If the reports show continuance of economic expansion and if the stock market settles down it is more likely rates will rise a bit.
Either way, we expect a wild ride in the news cycle and in the markets this week, but little change in mortgage rates overall by the end of the week.
This article represents the opinions of Casey Fleming, and not necessarily those of C2 Financial Corp. This analysis was prepared with the best information available at the time it was written. Neither Casey Fleming, nor C2 Financial Corp., have any magical insider information about bond markets, real estate markets or mortgage markets that would make economic projections any more reliable than any other source. No warranty is made that the outcome will reflect the projections in this article, and neither Casey Fleming nor C2 Financial Corp. are responsible for decisions that you make regarding your own choices about your real estate or mortgage or those of your clients.
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