Interest Rate Roundup

Thursday, November 30, 2006

There's your breakout ...

I've been talking about the 113 and a half level on the Long Bond future as a critical technical level. This week, we broke out to the upside there, and on heavy volume. 10-year Treasury Note yields also cracked the 4.54% resistance a few days ago ... and are now below 4.5%. The catalyst: Crummy U.S. economic data. The Chicago Purchasing Managers' Index sank to 49.9 in November from 53.5 in October, and initial jobless claims shut up to 357,000 in the week ended November 25. That's the highest since a spike last fall related to Hurricanes Katrina and Rita. You could argue some of the spike THIS time around stems from holiday week adjustments. But the bond market isn't buying it. Or rather, bond traders ARE buying the news ... sending Treasury prices higher and interest rates lower.

Wednesday, November 29, 2006

new home price GAINS? Hmmm...

Today's report of a YOY gain in new home prices in October seems suspect to me. It just doesn't "fit" with everything I'm seeing and hearing in the market. Let me give you just one example of what's going on here in South Florida ...

I signed up a while back to receive discount emails from a major national home builder that's active in this market. They've been running a "Move in for $1" discount, where the builder eats all except for $1 of the closing costs -- and is willing to finance your purchase at a 100% loan-to-value ratio (zero down). Just today, they added a $1,000 Visa gift card on the purchase of any home before 12/29. But it's the actual price cuts, not the incentives, that are really striking. They range from the mid-20% area on up to the high 30% area. One example: A discount of $140,000 on a home previously priced at $374,990. That's 37%.

Granted, South Florida is one of the worst-hit markets in the downturn. So the discounts and cuts are likely lower in other areas. But they're out there ... and if the new home price figures incorporated them, I think we'd see "real" declines in pricing on the order of 10% or 15% nationwide.

inflation is dead ... long live inflation!

One of the key drivers of inflation in recent years has been rising energy prices. Then this summer, they started plunging. That, in turn, helped set the stage for a dramatic decline in both the Consumer Price Index and Producer Price Index and a nice rally in Treasury prices/decline in yields.

But have you noticed something recently? Oil prices have stopped going down ... and are starting to go UP. Today, crude oil futures are up more than $1 to the $62 range. Natural gas futures prices bottomed around the mid $4s in late September. They're up to about $8.50 now. Energy stocks are outperforming as well, suggesting that traders believe more gains are coming. Throw in colder weather ... the potential for a second OPEC output cut ... a declining dollar (which drives up the price of commodities that trade in dollars, like oil) and other forces, and you've got the potential for a re-emergence in energy-based inflation.

This isn't a HUGE force yet. It's just something percolating in the background that could impact interest rates down the road. Stay tuned.

My thoughts on new home sales

I'm done slicing and dicing the new home sales report from the Census Bureau. Like the existing homes report, it’s a mix of “the good, the bad, and the ugly” ...

* Sales fell to 1.004 million (at a seasonally adjusted annual rate), down 3.2% from September’s 1.037 million and down 25.4% from last October. The market was looking for a 0.2% decline, so this would be the “ugly” news.

* Pricing was a real shocker – the “good” news on its face. The median price of a new home ROSE 1.9% to $248,500 in October from $243,900 a year earlier. In fact, this is the highest since April.

* Inventory was at 558,000, down slightly from 562,000 in September. But it’s still only 1.4% off the all-time high in July. Moreover, the “months supply at current sales pace” rate climbed to 7 from 6.7 in September. I’d call this the “bad” news.

Before I go into more details on my analysis, let's talk about the caveats first -- 1) New home sales data is notoriously more volatile than existing home sales data. 2) It also fails to capture the impact of cancellations – buyers of new homes who back out of contracts because they can’t sell their old homes or have just decided to walk away. 3) The new home market is much smaller than the existing home market. All of that said, this data is more TIMELY – it’s based on contract signings, not closings. So it’s not like it’s useless.

What I see is this: The only real way new and existing home sellers can move inventory in this market is to cut prices. Reason: There is so much inventory out there, that buyers have almost too many homes to choose from. Look at what happened in October -- Existing home prices fell, so sales ticked up. New home prices rose, so sales fell more than expected.

With the combined inventory of new and existing homes just shy of this summer’s all-time high, it is imperative that sellers are realistic. While purchase mortgage applications and sales rates are bouncing around recent lows – rather than declining further -- they’re certainly not surging. Throw it all together and I think we’re looking at an extended period where the market is relatively weak -- sales will be uninspiring, inventory will remain high, and prices will be flat to down through 2007 at least.

Tuesday, November 28, 2006

Home sales in my neck of the woods

Lots of you gentle readers don't live in Florida. You could probably care less about what's going on in our housing market. That's cool -- I'm not offended! But since I live here, I thought I'd summarize what I'm seeing in the latest October sales figures, just released by the Florida Association of Realtors ...

First, as the FAR points out, the year-over-year change in Southeast Florida doesn’t look too bad in October because we had Hurricane Wilma a year ago. That led to a 44% YOY decline in sales in Fort Lauderdale in October 2005 vs. October 2004, for example, with like declines in Miami and West Palm Beach. The STATE saw only a 5% drop that same month (10/2005). Clearly, you could say the hurricane had an impact on closings.

This past month, sales in Fort Lauderdale, Miami, and West Palm Beach actually rose or declined just slightly from 10/2005 levels. But the STATE saw a much bigger 22% drop (using single family homes), with declines spread geographically throughout north and central Florida. So it seems to me that the broad trend remains weak, once you strip out the hurricane impact.

Second, the pricing data doesn’t look so good across the state, or in our area. Median single-family home prices dropped 12% year-over-year, for instance, in the West Palm Beach-Boca Raton metro area, with declines popping up also in Fort Lauderdale (-5%) and Miami (-3%). Again, this may be skewed by the hurricane to some degree. But in the case of prices, these numbers are also consistent with what we’ve seen in recent months – first, a deceleration in the rate of price increases, and now actual declines.

So what about inventory? Well, there’s a website run by the real estate brokerage firm Illustrated Properties. It shows the number of properties for sale in its database. The link is here: You can see that inventory took a pretty big dive from September – down 9.6%.

But the key question is this: Are we really working through inventory? Or are sellers just giving up and pulling their listings to wait out the holidays, then re-list in time for the proverbial spring selling season. I’d be more encouraged on that front if sales shot up along with the decline in inventory. Since they didn’t, it may just be a seasonal thing.

If you’re an optimist, you could say things aren’t getting much worse. If you’re a pessimist, you could say: “Sure, but the numbers still stink.” I’ll go back to what I’ve been saying for a long time: Real estate downturns are long, drawn-out affairs measured in quarters and years, not weeks and months. We have tons of inventory to work through. To stem the slow bleed in prices, we’ll need that to come down substantially. That, in turn, will require even lower interest rates, the restoration of buyer confidence and ongoing strength in the employment market.

Can the stars align just right for the housing market? We’ll see. But my expectation is that 2007 will prove to be another weak year for sales and prices, and we’ll likely see mortgage delinquencies and foreclosures continue to rise.

Lots of talk, little market action

It's a big day for Fed speak today, with Chairman Ben Bernanke recently talking before the National Italian American Foundation in New York. His speech struck a balanced tone, consistent with the neutral policy stance the Fed is running with right now ...

* He cited a "deceleration in economic activity," which "primarily reflects a cooling of the housing market." Then he said the rest of the economy is "expanding at a solid rate" and that the "labor market has tightened further."

* On inflation, he said prices have "been somewhat better behaved of late," but that the "level of the core inflation rate remains uncomfortably high."

* He pointed out that home prices, sales, and building surged between 2000 and 2005, but that "no real or financial asset can be counted upon to pay a higher risk-adjusted return than other assets year after year, and housing is no exception." He said the price data are imperfect due to "sweeteners" used to move unsold homes (closing cost assistance and the like) ... but that clearly, some markets are seeing "outright price declines." Then he went on to cite some of the recent data which shows housing sales stabilizing (mortgage applications, for instance)

* He did point out that manufacturing, particularly in autos, and housing starts were relatively weak, but that "capital investment has continued at a healthy pace." He said the Fed assumes growth will be relatively weak in the near future but will return to a "rate that is roughly in line with the growth rate of the economy's underlying productive capacity."

Long story short, not a lot of "new" news in Bernanke's comments, other than the fact it's the first time the Fed Chairman has spoken in public about the economy in a while.

Treasury futures prices were up heading into the comments due to weak durable goods figures out this morning. They pulled back when Bernanke's comments were released, but are ticking up again. Stocks are bouncing around on either side of unchanged. In other words, not much market action for a highly anticipated speech. The one exception: The currency markets. The dollar decline we've seen the past few days picked up some steam post-Bernanke. The euro was recently up to 1.3188 against the buck from about 1.314 earlier in the day.

Some other coverage of the speech includes this piece from Bloomberg, and this one from the Associated Press.

The good, the bad, the ugly on existing home sales

The National Association of Realtors released October existing home sales data earlier this morning. Here's my summation -- what you might call "the good, the bad, and the ugly" news:

* The sales rate was up 0.5% between September and October to a seasonally adjusted annual 6.24 million. You could call that "good." At the same time, sales were still down 11.5% year over year.

* The inventory news was "bad" all around. The "months supply at current sales pace" measure of inventories ROSE to a new cycle high of 7.4 months from 7.3 in September and 4.9 a year earlier. The condo market is in even worse shape – We have 9.1 months worth of inventory there, up from 8.5 months in September and 5.4 a year earlier.

Actual TOTAL raw inventory climbed to 3.85 million units from 3.78 million in September. The October level is just shy of July’s all-time record, and the month's move REVERSES the minor downtrend we had been seeing in inventory for sale. In condos, to give you an idea for how bad the situation is, supply for sale was up a whopping 45.4% year-over-year, whereas sales were down 14.5% YOY.

* Prices are downright UGLY. Single family homes dropped 3.4% in value year-over-year, the worst drop on record (data goes back to 1968). Condo/co-op prices were down even more – 5.3%. These figures show that prices are declining at an accelerating YOY rate.

Bottom line: While sales rates have stabilized from their summer lows, these latest figures show the housing market is NOT out of the woods – not by a long shot. There is a HUGE supply glut that isn’t going away anytime soon. It’s going take still-lower interest rates, stable employment, and lots and lots of time to work off the excesses of the early 2000s. Don’t expect that to happen overnight. And if anything goes wrong (a recession, surge in unemployment, etc.), things could get worse.

Monday, November 27, 2006

REIT rout

I wondered out loud the other day about whether Sam Zell's deal to sell Equity Office Properties to private equity buyer Blackstone Group was the mother of all bells signaling a top for REIT shares. Lo and behold, the iShares Dow Jones U.S. Real Estate Index Fund (IYR) closed down 2.59% today. That's the worst one-day percentage decline going all the way back to August 2005, and twice the decline in the Dow. Maybe investors are slowly regaining their sanity ... or maybe it's just a blip. You never know. What I BELIEVE, however, is that ...

* Real Estate Investment Trusts are wildly overvalued by a wide variety of measures (including price-to-earnings and price-to-Funds From Operations (FFO) ratios)

* A weaker economy will crimp rent growth in the office and retail markets. And in the apartment market, you have a very large (and growing) supply of "shadow rentals" from stuck house flippers who can't sell and are trying to rent instead. That will likely throttle down the rent growth we've seen at key apartment REITs.

* Lastly, REIT yields are far below what you can earn on risk-free Treasuries, much less other fixed income investments. The IYR has an indicated yield of a whopping 3.38%, for instance, versus 5.13% on a 6-month T-bill.

A gigantic flood of private equity/LBO money has sent share values higher across the sector. But maybe today's action shows that Sam Zell isn't the only smart investor looking for the exits.

cent ... five cent ... ten cent ... dollar

My wife and I love cruise vacations -- we've been to the Caribbean and the Bahamas a few times, and hope to do the Mediterranean down the road. One song you inevitably hear the steel drum band play on a cruise has a chorus that goes :"Cent ... Five Cent ... Ten Cent ... Dollar" over and over again, with the pace gradually picking up. It's catchy -- so catchy, you can't get it out of your head for days ... even weeks ... afterward.

I haven't cruised since August. But that darn song keeps popping into my head anyway. Why? It seems to accurately describe how much value our dollars are losing day in and day out. One cent against the British pound here. Five cents against the euro there. It's clearly on the ropes, as I've been discussing on my blog for a while now.

When does it stop? Who knows? The dynamic at work in the currency market (and the interest rate markets) appears to be ...

1) The U.S. economy is weakening
2) This will cause the Fed to cut rates
3) That will narrow the differential between U.S. rates and overseas rates, making the dollar less attractive vs. alternative currencies
4) But bonds are still a "buy" because inflation will ease along with the economy, and the Fed cuts will get rid of the "negative carry" investors are suffering from right now (Borrowing money at high short-term rates and using it to buy long-term bonds with lower yields isn't a lasting path to prosperity)

Here's the problem: A huge chunk of our marketable debt (51.9% of U.S. Treasuries as of June 2006, according to the Treasury Dept.) is held by foreign/international investors. All else being equal, a dollar drop leads to losses on those bondholdings.

So far, it hasn't mattered -- Treasury futures actually set a nominal price high last week. Indeed, waiting for overseas holders to dump bonds due to a dollar decline has been like waiting for Godot. But you have to think at some point, there will be SOME impact on prices and yields. I mean, why should our creditors/debtholders be willing to continue losing money ad infinitum?

Wednesday, November 22, 2006

Dollar breaking down

A few posts ago, I said the Dollar Index was on the cusp of a potentially serious breakdown. It looks like we're getting one today. It's a holiday week, so this may just be a symptom of thin markets. But it shouldn't be ignored if it sticks since this uptrend dates all the way back to the December 31, 2004 DXY low.

What's going on? Investors are concerned the Federal Reserve will react to the housing carnage (and the weakening in the U.S. economy it is causing) by cutting interest rates ... at the same time growth remains strong enough overseas for foreign central banks to either hold rates steady or RAISE them. If that were to happen, the yield differential between rates in the U.S. and rates overseas would narrow, making the dollar relatively less attractive.

Treasuries are on the cusp of a potentially serious breakout as well. The mid 113s on on the continuous long bond future is a key price level. 4.54% is a key yield level on the 10-year Treasury Note. A breakout to the upside in prices and breakdown in rates would be noteworthy -- a sign the U.S. economy could be weakening much more quickly or severely than people believe.

Tuesday, November 21, 2006

Things to ponder over turkey and trimmings

The markets are quiet, both bonds and stocks. There's not much news on the economic front due this week, either. So let me take this opportunity to wish everyone a Happy Thanksgiving ... and share a few random thoughts to ponder over a plate of turkey with all the trimmings ...

* They don't ring bells at the top of any market. But how about that $36 billion Blackstone buy of Equity Office Properties? Is legendary investor Sam Zell's "cash out" a sign the nutty, liquidity driven lovefest in commercial real estate and the Real Estate Investment Trusts is just about over? Considering capitalization rates are hovering down there with that submarine from 20,000 Leagues Under the Sea ... and REIT dividend yields are (in some cases) the lowest in history ... you have to wonder how much gas is left in the tank. But I've been wrong on this sector before.

* Risk? Ha! This market is going to the moon. Let's light this candle! What a great time to buy! You're getting paid all kinds of extra yield to take on more risk her ... er sorry, I lost it a bit there. Must have been the lack of oxygen after I saw the VIX fear/complacency indicator at roughly the lowest level in history.

* Can monetary policy really be considered "tight" when everyone with a pulse can borrow all the money they want? Doesn't the explosion in global money supply ... global M&A ... extremely tight corporate and junk bond spreads ... $1,168-a-square foot price tags for Manhattan office property ... and more show that monetary policy is anything BUT tight?

Oh well. Someday this stuff will matter. Until then, look for the "Money, Money Everywhere" trade to continue.

Monday, November 20, 2006

State and metro area home price/sales data out

The National Association of Realtors just released its data on state and metropolitan area home sales and prices for Q3. We've already had a look at the month-by-month national stats ... these figures allow you to zero in on localized trends. A few that stand out:

1) Like Icarus, those markets that flew the closest to the sun are the ones really getting burned. Sales dropped 12.7% nationwide between the third quarter of 2005 and the third quarter of this year. But they tanked 34% in Florida ... 38% in Nevada ... 23.7% in New Jersey ... 28.6% in California, and so on.

Here's the PDF link to the sales stats, broken out by state:$FILE/STATES.pdf

2) Price declines are showing up in many more locations. Of 148 metropolitan areas tracked, 45 suffered price drops (-3.8% in Appleton, WI ... -8.5% in Bloomington-Normal, IL ... -3.2% in Deltona/Daytona Beach/Ormond Beach, FL ... and -5.5% in Providence/New Bedford/Fall River RI/MA to name a few). A year ago, only 6 of 147 metros tracked had price declines.

Price data link (PDF format):$FILE/MSAPRICESF.pdf

Friday, November 17, 2006

Housing starts disaster

I hope you caught CNBC this morning right after the housing starts and building permits news came out. I had a chance to discuss the numbers on the air. Let's not mince words -- they were Ugly, with a capital "U.":

* Housing starts plunged 14.6% to a six-year low of 1.49 million units (Seasonally Adjusted Annual Rate) in October

* Building permits tanked to 1.54 million units, the ninth straight decline. Permit issuance is running at its lowest level since December 1997.

* Forecasts called for a 1.68 million pace for starts, so we obviously missed the forecast by a country mile.

What's going on? People are underestimating the MAGNITUDE of the oversupply glut we have.

We had 573,000 new homes on the market at the July 2006 recent peak. That's a roughly 85% rise in supply over the past five years. You know how much we've come down since then? 2.8%. And that's with new home prices dropping almost 10%, their biggest YOY fall in 36 years.

Existing home supply is also off the charts. While it has come down for a couple months, the decline is about the same magnitude as the decline in the new home market -- a pittance. Here's something else to consider: This small drop may be nothing more than a normal, seasonal event. People who don't sell in the spring and summer often pull their homes from the market in the winter time. This inventory pattern shows up year-in and year-out in the existing home market. When spring rolls around, inventory spikes again.

My view is that we have more downside work in starts -- and also in home prices. It's going to take time ... LOTS of time ... plus lower interest rates and decent job and economic growth to work through this housing bust. If things don't go just right (i.e. no recession, no further tightening in mortgage credit availability), we could have serious another leg down. At the very least, I expect 2007 to feature weak sales, flat-to-falling prices, more foreclosures and delinquencies, and rising inventory again in the spring.

Incidentally, local foreclosures continue to climb in my neck of the woods. I discussed this with a couple of local reporters recently. You can read the pieces in the Palm Beach Post and Sun-Sentinel, if you like.

Thursday, November 16, 2006

Falling home prices bad? Depends on your perspective

After re-reading my post from yesterday, I did some more soul-searching/thinking about falling home prices. Are they bad? Should policymakers (whether at OFHEO, the Fed, or somewhere else) do all they can to keep them from dropping and/or try to cushion the blow?

Philosophically, I don't think so. Policymakers basically ignored rising home prices on the way up, considering it "asset" inflation not "real" inflation. That, in turn, forced borrowers to stretch themselves to the asbolute max, with the riskiest possible loans, to buy. Speculators jumped aboard the band wagon and took on huge amounts of economic risk in exchange for the promise of big profits.

As we know, things didn't work out. My first reaction is "Sorry, but them's the breaks." If I buy a stock, taking on the risk with my eyes wide open, my analysis proves incorrect, and the stock falls, I lose money. Why should it be any different when anyone else buys a house as an investment?

Now clearly, falling home prices will leave buyers who purchased at the top in the lurch. But think about the BENEFITS of alling home prices, too: They make it easier for REAL buyers to buy homes they can REALLY afford. The fact is, this bubble pushed homeownership out of the reach of countless Americans who were unable or unwilling to commit financial suicide and borrow 60% of their gross income at a 100% LTV to buy a home that costs more than twice as much as it did three years ago. If we're going to have a normal market again, we need normal homes to be affordable to normal people.

Here's a shocking fact: 30-year fixed mortgage rates have steadily declined from a monthly high of 18.44% in October 1981 to 6.31% this September, according to my Bloomberg. But because median prices surged so much during that time period (to $219,800 from $66,000), it actually costs MORE per month to buy a home now than it did when rates were almost three times as high. Assuming you put 20% down, you'd have to pay $815 in principal and interest in 1981 to buy a home vs. $1,090 now. That's the ultimate, unspoken fallout from unchecked home price appreciation -- and why the unwinding of the housing bubble, while painful in the short term, will get us back on the right long-term track.

Wednesday, November 15, 2006

OFHEO pulls a fast one on loan limits

Talk about moving the goalposts! The Office of Federal Housing Enterprise Oversight just released its plan for conforming loan limits should home prices fall, and the details have left me shaking my head in disbelief.

First, some background: Every year, OFHEO adjusts the conforming loan limit -- the maximum dollar size mortgage that Fannie Mae and Freddie Mac can buy or guarantee. It does so based on the October year-over-year change in average home prices. If the government finds that prices rose 5%, then the conforming loan limit goes up 5%. The 2006 limit was $417,000, for example, up 15.9% from a year earlier (the biggest increase since at least 1980).

Why does this matter? Rates on "conforming" loans are lower than rates on larger loans (called "jumbo mortgages"). That's because the presence of Fannie Mae and Freddie Mac allows lenders to offload risk to liquid, global capital markets more easily. Should the conforming loan limit go down in a given year, it would likely hurt the housing/mortgage market a bit at the margin.

Let's say the conforming limit fell to $400,000 from $417,000, a decline of 4.1%. In theory, the mortgages made next year for between $400,000 and $417,000 would carry higher rates than the mortgages made for those amounts this year (assuming rates overall were completely unchanged). That would reduce borrower buying power somewhat.

This is where it gets interesting ...

If October prices go UP, OFHEO says it'll be business as usual. The conforming limit will rise by that percentage amount. If October prices go down, OFHEO will just say "forget about the rules." It will defer any decrease for one year, leaving 2007 conforming loan limits unchanged from the $417,000 for 2006. Then the percentage decrease shown this October will be netted against any increase shown in the October 2007 figures. If prices fall AGAIN, then we'll finally see the decrease show up in 2008 mortgage limits.

Long story short -- rising prices and rising loan limits, which helped drive up home prices, are okay. We love inflation in our homes, right? But when prices actually fall, making homes generally more affordable to new buyers, the rules can be completely abandoned and/or re-written. What a country!

Fed officials "Tawk amongst themselves"

Every few weeks, we learn about the Fed's "coffee tawk" -- specifically, what they said at their most recent Federal Open Market Committee meeting. Minutes were just released for the October 25 gathering. You can read the whole document here, if you need some help sleeping. But I'll sum it up thusly...

The Fed made it abundantly clear that it does NOT plan to cut rates any time soon. Policymakers couldn't be more clear if they flew a blimp over the Super Bowl saying "Read our lips: No cuts are coming." They view taming inflation as job #1. A key comment: "All members agreed that the risks to achieving the anticipated reduction in inflation remained the greatest concern."

Moreover, Fed officials hinted that their fears about economic growth were easing. Specifically, they said: "Most members judged that the downside risks to economic activity had diminished a little."

Yes, commodity prices (including energy) have come down from their peaks. That helped suppress producer prices last month. But wage pressures remain elevated. And outside of housing, there are few signs of widespread economic stress. Credit spreads remain tight. The stock market is going up practically every day. Money supply growth is exploding all over the world. Plenty of other indicators also suggest the liquidity hose is stuck on "wide open." In my view, the Fed simply can't afford to cut rates in this environment.

Bank stocks/bond thoughts

With the market throwing a party, it's worth noting that one sector has been underperforming the past couple of days -- major banks. Just to name one, WFC (Wells Fargo) is having a nasty day, recently down 1.36%% vs. a 0.16% gain in the Dow. What's behind the market action?

Well, Treasuries are struggling thanks to today's stronger-than-expected Empire Manufacturing index (from the New York Fed). Key resistance on the 10-year T-Note continuous future is right around the 108 20/32 level -- it held yesterday when the Producer Price Index came out "bullish" for bonds. Today's Fed minutes and tomorrow's Consumer Price Index figures for October could be the catalyst to roll us over here, or break us through on heavy volume. So fasten your seatbelts ... it should be one heck of a ride.

Tuesday, November 14, 2006

The latest on rates, inflation, and recession risk

Whopper of a Producer Price Index this morning -- the overall PPI dropped 1.6% on the month, vs. forecasts for a 0.5% decline. The CORE PPI dropped 0.9%, against expectations for a 0.1% gain. That 1.6% decline matches the biggest monthly decline on record. The core rate decline was the biggest since 1993, driven in part by a record drop for light truck prices (and of course, the two-month, sharp fall in energy prices).

I think the real inflation right now is clearly in ASSETS, due to incredibly abundant liquidity (see my earlier posts for more).

The market reaction? 10-year Treasury Note yields tested ... but didn't break through ... recent lows in the 4.55% area. Likewise, Treasury futures prices failed to break out to new highs. Part of it is probably due to the fact we still have CPI to get out of the way two days from now. PPI and CPI results don't always correlate well. Part of it is also becauase October retail sales fell just o.2% against expectations for a 0.4% drop. Once you strip out gasoline sales (which fell along with prices), sales actually perked up 0.4%.

With the entire yield curve trading below the federal funds rate of 5.25%, we're in rarified territory. The bond market is going to have a hard time advancing further unless the Fed signals an imminent rate cut ... the economic news gets even worse ... or we get some kind of break in the credit or stock markets.

It's worth pointing out that the difference in yield between 3-month bills (5.09%) and 10-year notes (4.57%) is now 52 basis points. That's pushing the risk of recession in the next four quarters above 40%, according to Fed research. The table above shows the recession chance indicated by various levels of curve inversion (with the curve being defined as the difference between yields on 3-month bills and 10-year notes)

Friday, November 10, 2006

Watch your dollars

I've been monitoring the chart of the Dollar Index (DXY for short). The dollar spent the last few months rallying off its low. But in the past several days, it's been losing ground and it's dangerously close to a major breakdown. The greenback is trading through one support line (in cyan) today, and if the second one goes, this dollar selling could really get nasty.

One other thing I'll note: The DXY chart and the chart of the HGX (Housing Index) look awful similar since roughly the beginning of 2005. Does that reflect the international currency market's judgment that "as housing goes, so goes the U.S. economy?" I don't know. But it's worth noting the apparent correlation.

At least the ECB has some sense

Witness the following comments from European Central Bank council member Christian Noyer at a conference in Frankfurt (as quoted by Bloomberg):

"We might be facing a permanent increase in the demand for money and of course this shift may impact on measures for excess liquidity ... Consistent with this hypothesis is the fact that money holdings of corporate and financial institutions have grown much faster in recent years."

Exactly what I said below. And here's the "money" quote, if you'll pardon the pun:

"When financial imbalances build up in the economy which are fueled by excess money or liquidity growth, unwinding of those imbalances can be brutal and discontinuous" and "very destabilizing."

He also added that surging money and credit growth promotes asset booms -- exactly what we've seen in spread product, commercial R.E. ... aw, heck ... you know the score. No need to repeat myself.

Thursday, November 09, 2006

China and reserve musings

The dollar is getting beat up a bit, and gold is jumping more than $18 today. Why? People's Bank of China Governor Zhou Xiaochuan made some comments about diversifying that country's gigantic pool of foreign exchange reserves. China is sucking in gigantic amounts of money from all over the world by running massive trade surpluses with its trading partners. Reserves just topped the $1 TRILLION market, in fact, the most of any country ever in world history. That's 21% of world reserve assets; Japan is second at about 18.4%, according to Bloomberg.

Estimates of how much of China's reserves are in dollars and dollar-based assets are all over the map. One former advsier to the central bank's monetary policy committee said it was "more than half." A recent estimate from Roubini Global Economicss puts the dollar share at 70%. A gigantic portion of those reserves are in U.S. bonds -- Treasuries, spread product, you name it.

And that goes back to the point in my last post: The global surge in money supply and reserves available for investment appears to be distorting the interest rate markets. So much money is looking for a home, and chasing yield, that it's suppressing overall interest rates. It's only a theory, but it seems to fit from where I sit.

I should add that IF China ever gets around to unloading some of its U.S. bonds, the impact on our interest rates would be severe. Who knows when that will happen. But it's unlikely this situation (we buy stuff from China, ship China our dollars, which they invest in our bonds) will last forever.

Money, Money everywhere

What do falling long-term yields ... incredibly low spreads on risky debt vs. U.S. Treasuries ... hundreds of billions of dollars in private equity deals ... still-elevated gold and energy prices ... plunging capitalization rates on commercial real estate transcations ... and multi-decade low dividend yields for some REITs have in common? Glad you asked.

My answer: Money. Money everywhere. An ocean of liquidity sweeping through the global capital markets. We can't get a look at M3 here in the U.S. anymore, because the Federal Reserve decided several months back that the indicator wasn't useful (I think that's nuts -- the MORE data, the better -- but that's an argument for another day). But M4, the U.K.'s broadest measure of money supply, surged at a 14.5% annual rate in September -- the most since 1990. European M3 surged at a 8.5% year-over-year rate, up from 8.2% in August and almost twice the 4.5% rate the European Central Bank has flagged as risky in the past. And in other countries, the story is the same. Money and credit growth is enormous right now, and that money is helping drive up the value of all kinds of assets, regardless of credit risk, historical valuations, low/falling yields, etc. It's also fueling a gigantic wave of buyouts -- private equity funds may end up raising $400 billion this year, versus $283 billion a year ago, according to Private Equity Intelligence.

The Fed still seems focused purely on benchmark economic data -- employment, CPI, productivity, etc. But I think it's a real mistake to overlook the impact of this excess liquidity. It distorts financial decision-making and asset prices, and the fallout can be quite painful. Just look at what too much liquidity did to the residential housing and mortgage markets: Created the largest housing bubble in U.S. history. Do we really want to see malinvestment in other sectors, too? Food for thought...

Wednesday, November 08, 2006

An HGX snapshot for you chartists out there

This chart shows the HGX -- the Philadelphia Housing Sector Index. It's comprised of 20 major home builders and construction suppliers. You can see the big spring plunge, and the shorter-term uptrend we've been in since July. Will the uptrend line hold? Will it break? We'll see ...

delayed reaction apps pop

I've been talking about the Mortgage Bankers Association's purchase application index quite a bit -- it's a good leading indicator of home sales, and since it comes out every week, it's as close to a real-time snapshot of the market as you can get.

In the most recent week, it looks like we got a delayed reaction to the drop in interest rates in late October. Purchase apps popped 7.1% on the week, while refis increased 11%. That said, the longer-term trend is down-to-sideways, and we're well off the levels of a year ago (402.20 vs. 465.70 in the same week of 2005, or -13.6%). So it helps to keep the big picture in perspective.

Tuesday, November 07, 2006

strange things are afloat at the bond market Circle K

Sorry, I couldn't resist the lame Bill & Ted's Excellent Adventure reference there. But there's definitely some anomolous action in the U.S. Treasury market right now. The long bond was recently up 27/32 in price ... while 10-year note yields were down almost 6 bps -- fairly large moves on "no news."

Are the dismal housing orders stats rekindling fears of a disorderly housing slowdown?

Is it relatively flat-to-dovish comments from Cleveland Fed president Sandra Pianalto?

Or is it something more esoteric: The news that China's reserves have reportedly crossed the $1 TRILLION mark? We all know Asian central banks recycle the dollars we pay them for goods into U.S. debt instruments. Perhaps the bond market is speculating that this gigantic mountain of money will continue to flow into UST.

Unclear. But again, this is a pretty large move on ostensibly no news (this is a very quiet week for economic data, and nothing has been released this morning).

New home orders disaster

You know what you keep hearing on Wall Street? That the housing bust is over ... that the housing stocks are fine ... that there's nothing to worry about any more. But you know what the DATA keeps showing? An ongoing deterioration in orders and leading indicators, like the Mortgage Bankers Association's purchase mortgage index.

Just look at the news out of BZH and TOL this morning -- TOL reported a whopping 55% YOY decline in net new orders for the quarter ended October 31. That compares with a 45% YOY decline in the fiscal third quarter ended July 31. BZH net orders were down 58% YOY. In the June quarter, they were down 15.8%. Especially interesting was the Florida-only orders number for BZH -- 70 in the September quarter vs. 696 a year ago. That's a freaking 90% decline!! Does that look like a "soft landing" to you.

I would LOVE for someone to show me the improvement in these numbers. But the fact is, order trends are getting worse, not better.

Monday, November 06, 2006

Changes afoot in the rental market

I've been blogging and writing about conditions in the apartment/rental market on occasion. Conventional wisdom holds that the weak housing market is a boon for rentals. You have to live somewhere, and if you can't afford a house or don't want to buy a house, you have to rent. Ergo, buy apartment REIT stocks. Most of them have had a stellar 2006, rising 40% or more.

For a while, the market did get tighter. One reason: Many apartment complexes went condo -- depressing the supply of available rentals and driving rents up. But now, thousands of the apartments that were converted to condos are being RE-converted to rentals.

On top of that, the national housing vacancy rate is surging. The homeonwer vacancy rate hit 2.5% in Q3, the highest level ever. And the rental vacancy rate climbed to 9.9%, up from 9.6% in Q2 and 9.5% in Q1. As more stuck flippers realize they can't sell, and start trying to rent instead, you can bet MORE rental supply is going to hit the market.

Lastly, the National Multi Housing council just released its latest quarter index of market conditions. This index tabulates market tightness, the ease of obtaining equity or debt financing to buy or build apartment complexes, and apartment sales volume.

The sub-index of market tightness is the most important, with regard to where rents are headed. And wouldn't you know? It plunged in October -- to 70 from 85 in July. The October reading is the lowest since January 2005. The percentage of respondents saying market conditions are looser than three months ago shot up to 14% from just 6% in July and 2% in October 2005.

My take: The rental market WAS tight. It's getting looser. If the economy weakens, and/or more home sellers become reluctant landlords, it'll get looser still.

Fed says: "Oops, my bad."

In the 1995 movie "Clueless," Alicia Silverstone's character goes for a driving test, almost runs over a cyclist, knocks the mirror off a parked car, and responds with nothing more substantial than: "Oops. My bad." Naturally, she fails and doesn't get her license.

It was funny at the movies. It's no so funny these days, when it's the Fed talking about the housing bubble/bust. Specifically, I'm referring to the Nov. 2 comments from Dallas Fed President Richard Fisher, who said:

"In retrospect, the real fed funds rate turned out to be lower than what was deemed appropriate at the time and was held lower longer that it should have been. In this case, poor data led to a policy action that amplified speculative activity in the housing and other markets. Today, as anybody not from the former planet of Pluto knows, the housing market is undergoing a substantial correction and inflicting real costs to millions of homeowners across the country. It is complicating the task of achieving our monetary objective of creating the conditions for sustainable non-inflationary growth."

I have to give Fisher credit for at least partially admitting the Fed's role in this horrible mess. But even he blames bad inflation data for prompting the Fed to keep rates too low. How about "failing to put the darn data down and look out the window every once in a while." The massive speculation ... the dot-com-like frenzy in housing -- it was obvious to those of us paying attention to our financial environs. Why didn't the army of experts at the Fed see it? And why didn't they act before things got too out of control, either by tightening monetary policy or tightening mortgage lending regulations?

I'd also note that Fisher is in the distinct minority here. No other Fed official has made comments like his. In fact, lots of Fed economists have been busy publishing papers claiming either: A) There was no bubble B) Okay, there was a bubble, but it was fueled by fundamentals or C) There might have maybe been a bubble in a few places, but it doesn't matter. There won't be a bust and even if there is one, it won't be bad.

Then of course, there's former Fed Chairman Alan Greenspan, who blamed the fall of the Berlin Wall for the housing bubble. That was a nice one.

Friday, November 03, 2006

HUGE bond market selling

I didn't think the jobs numbers were all that much to write home about. But boy are the bonds getting clocked as a result. The continuous long bond futures contract was recently down 1 5/32 -- or 1.02%. That's the single-biggest one-day percentage decline since July 21, 2005. 10-year yields have shot up almost 11 basis points.

Dissecting the Oct. jobs report ...

So overall nonfarm payrolls rose in October (92,000), but less than expected. Where was the weakness? Where was the strength?

Sectors with notable gains:
mining (+4,600)
clothing/accessories stores (+6,000)
transportation/warehousing (+6,800)
Publishing (+3,700)
Finance and insurance (+6,400)
Management and technical consulting (+11,700)
Administrative and waste services (+24,000)
Health care and social assistance (+27,600)
Food service and drinking places (26,700)
Local government (+39,000) -- big teacher hiring

Sectors with notable losses:
Construction of buildings (-6,100)
Specialty trade contractors (-22,000) -- residential contractors took a huge hit, while nonresidential was up several thousand
Durable goods manufacturing (-19,000) -- autos, furniture, fabricated metal, and wood products particularly bad
Nondurable goods manufacturing (-20,000) -- plastics and rubber worst off, but lots of categories saw little hits
Real estate/rental/leasing (-4,800)

This isn't a complete list of all categories, but some trends are clear: Residential real estate and sectors related to it are in big trouble ... commercial real estate is still okay ... and food service/health care/entertainment/local government sectors are where the biggest job growth can be found right now.

Whether that holds up, though, depends on the broader economy. I have my suspicions about retail and commercial real estate -- both could get whacked if consumer spending continues to show signs of slowing and/or if hiring doesn't pick up. Those factors would hurt retail hiring, demand for mall and office space, etc.

Thursday, November 02, 2006

furniture sales follies ... and a productivity plunge

The October retail sales data is out -- sales rose 3% YOY, the weakest growth since June. Here's the real kicker: Furniture store sales plunged 13.7%. That was much worse than the 5.1% YOY decline in September. It's also the worst YOY decline going back at least four and a half years (I don't have ready access to data before April 2002 right now). If you're looking for evidence of more "second round" impacts from the housing bust, you've got it.

Also, did you get a load of the productivity and unit labor cost data for Q3? Productivity was unchanged vs. expectations for a 1.1% YOY gain. Unit labor costs rose at a 3.8% pace; they're up 5.3% in the 12 months ended in September. Labor costs haven't risen by a greater amount since 1982.

The bond market is relatively sanguine about the numbers because the key October jobs report is released tomorrow. But here's my one thought: Given how FAST labor inflation, CPI inflation, etc., has been rising -- especially earlier this year -- how the heck did 10-year Treasury yields peak out around 5.25%? The last time key inflation readings were this bad (mid-1990s, early 1980s, depending on the indicator), interest rates were much, much higher. Just something to chew on.

Wednesday, November 01, 2006

Pending Home Sales slump

The pending home sales index for September showed a 1.1% decline from August, slightly worse than the 0.9% decline forecast. The YOY decline comes to 13.6%. In other economic news, the ISM manufacturing index for October came in at 51.2, compared with 52.9 a month earlier and a forecast of 53. Construction spending dropped 0.3% MOM for September. All in all, weak economic data across the board, and long bond prices are testing their old high.

Purchase applications visual

Here's what a longer-term chart of the purchase application looks like ...

Purchase applications hit new low

Every week, the Mortgage Bankers Association puts out weekly data on mortgage applications. The numbers track two categories of apps -- apps for purchase mortgages and apps for refinance loans. In the most recent week ended Oct. 27, the purchase index slumped 1.8%. The absolute value of that index -- 375.6 -- is now at a cycle low.

In all fairness, the most recent low in late September was 375.9. So we haven't convincingly plunged to new depths. But I believe this DOES prove that all the talk that housing has definitively bottomed is premature.

The fact is, the MBA says 30-year fixed mortgage rates made their most recent peak at 6.86% the week of 6/23. Since then, rates have dropped to 6.24% -- a decline of 62 basis points, or 9%. The purchase application index, however, peaked the week of 7/7 at 425. Since then, it has dropped 11.6%. Measure the index from the week of 6/23 (which was one "weak week" sandwiched between some strong ones), and you still get a 3.4% decline in purchases. In other words, falling rates are NOT prompting a surge in buying yet.

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