Mortgage Market Commentary, 5-20-2022

May 20, 2022 5:13:14 PM

We are excited to partner with one of our favorite mortgage minds, Lou Barnes, to bring you his biweekly commentary. Lou is a loan officer in Boulder, CO, but his insight is relevant across the country. Lou's opinions should not be construed as the opinions of CENTURY 21 Redwood Realty or our partner, Day 1 Mortgage.

The recession-watch: watching the Fed watch us. We will be punished until we behave. Supplies limited, the Fed must remove our ability to compete for things in short supply.

Rates and Markets. The Fed has the attention of markets, the prospect of steep and open-ended rate hikes driving everything. In the only two significant market-movements this week -- stocks down, dollar up -- both were pushed by tougher Fed talk.

As ugly as stocks are, perhaps more important is the list of stuff not moving: the 10-year T-note (safely below the crucial 3.00%), mortgages (still 5.50%-ish), the 2-year T-note (still priced for 2.75% cost of money at year-end), oil (slippery but $112), nat gas (holding $8/mbtu), and gold ($1839, stuck).

Powell Interview. This week Chair Powell was interviewed by the WSJ’s Nick Timiraos, and the transcript is worth your time. We have to guess at the links from his words to markets, but we do not have to guess at his words. 

Powell’s content and style were different from his May 4th post-meeting presser, this time on the harsh side of direct, and in several places his inflation concerns were the opposite of transient. “The main thing is to get inflation down.” He still offers optimism -- “...There are a number of plausible paths to having a softish landing” -- but his emphasis was persistent trouble. Markets -- hell, everybody -- have hoped that inflation would retreat under Fed pressure and supply-chain self-repair, and the Fed would back away from tight to neutral at worst. Persistent inflation would mean a persistently tight Fed, the cost of money above long-term rates, and perhaps a lot higher -- the Mother of all Inversions.

“There could be some pain involved in restoring price stability. 

“China... what they are going is preventing any healing of supply chain problems. 

“There is a risk that we will have a persistent imbalance between supply and demand in the [labor] market... that points to a higher natural rate of unemployment... probably well above 3.6%.

“There is a real possibility that globalization will go in reverse to some extent... supply chain, more stability perhaps, but it might not be quite as efficient as the amazing global supply chains.”

Baby Formula. The Right knows that the shortage has been caused by meddlesome DC bureaucrats, and the Left is sure that fault lies with soulless, profiteering corporations.

Yep. That’s us: the Disunited Bases of America. E Pluribus Dementiarum. Since roughly 1990 (the end of the Cold War, advent of IT) we have enjoyed ultra-efficient chains of supply. “Just in time” delivery, no reserve stocks; no standby supplier; indifferent to the political stability of supplier nations; and what-me-worry potential for disruption. Hence delicate chains. Get away with them for long enough and forget the physics of momentum.

Hold the kid’s bottle for a minute and think through to good news. Adding security to any chain of supply is a one-time increase in cost. Bad inflation ramps upward continuously, and really bad inflation spirals with wages (Powell’s labor comments sound like closing the lid on a casket). Inflation momentum is the Great Satan. Instead, one-time: carry a little more inventory. Maintain a little idle capacity. Avoid cheap suppliers in crazy places (Russia, China). Don’t drive each other crazy by shaving nickels and demanding ever-quicker response. A common device in the money world: pay an annual fee for a standby line of credit -- not a bigger fee one each year, the same one, a one-time increase in cost and price. Supply chains will repair, much efficiency is undamaged, and some is still improving. Amazon delivers my stuff before I order it.

Elon.... Overconfidence strikes geniuses, not just chains of supply. Elon is under contract to buy Twitter for $54.20/share. The stock price today is $36.91. Those who have participated in exuberant auctions to buy a house will find Elon’s predicament familiar: paying over asking price, waiving his right to due diligence inspection, and his contract is for specific performance. Twitter can force him to proceed, not just settle for his $1 billion earnest money. 

Speaking of Housing.... We are the momentum poster-child. Housing is in the worst supply shortage in living memory. The signature buyer is a metro-area IT household desperate for more room now that Covid has altered IT work forever. Not going back to the office. Management can announce whatever it wants, but... NOT. Two years of this, and the highest-achieving, best-paid, most job-secure households have momentum. Higher rates will stop them? Nah. Overqualified. They will not stop the house rush until it looks silly: more houses than buyers, and that shift will require Powell’s pain.

Alphabet Pain. One stabbing sensation which may slow the IT mob: RWE. Reverse Wealth Effect. Affluent households are aggressive because they are affluent. Even if not using the money, it makes them brave to know that they have it. RWE: stocks down 20% (so far) will diminish ardor. IT clients who liquidated cryptos to win the house auction should be pleased, although all whom I’ve known resisted and felt sad. Those who held on, who believed that Stablecoin was stable, that USD and UST in the crypto name meant the same as dollars and Treasurys... RWE. 

Then, just now underway, QT. You’ll recall Quantitative Easing... now Quantitative Tightening, the Fed soon to mop QE at $95 billion monthly.

Weak Theory. Especially popular: belief that the $3.5 trillion leap in bank deposits in 2020, whether excessive stimulus or Covid non-consumption will be spent, increasing monetary velocity and sustaining inflation. Only one problem: if being spent, then deposits would fall, but they are not. Not yet (chart below). Both deposits and total bank credit have flattened in May, probably yer Fed at werk.

Russia. Mr. Churchill described Russia as “A riddle, wrapped in a mystery, inside an enigma.” This week a window cracked open. Maybe. Retired Colonel Mikhail Khodaryonok on state television, its most-popular 60 Minutes: “The situation for us can only get worse. We are in total geopolitical isolation and the whole world is against us, even if we don’t want to admit it... our resources, military-political and military-technical, are limited.” 

NYT here, and Slate. In January the Colonel had said invasion would fail, for the reasons it has, then was forced to retract. Retired officers are often a source of authority in places like Russia. And, censorship and propaganda notwithstanding, several hundred thousand Ivans in the military are now telling Mama that the patriotic crap on TV is just that.

Since and including the odd May 9 parade, the most surprising development has been Putin’s passivity. No double-down, no threats, no reaction to expanded NATO, just nibbling at Donbas villages. The initiative is passing to Ukraine. Next up: break the blockade of ports. Good sources say we are working to supply just enough Harpoons to encourage the Russian 20-ship Black Sea fleet to find a remote harbor and stay in it.

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The 10-year in the last year. It’s way early, but this is a chart of topping. 10s stopped dead at the 2013 and 2018 tops, and now forming a “head and shoulders.” 2.78% today... break 2.70% and every chart trader and algorithm will buy. Odds are immense that the Fed will over-do the war on inflation. Because it must:

 

The 2-year in the last year, by far the best Fed-predictor. Traders are alert to every hawkish word from the Chair, but 2s stopped moving up in early April:

 

Deposits since 2018 in the top chart, total bank credit below. Cause and effect are not easy to figure, but both have flattened in the same timespan as the 2-year flattening. 



 




Thanks for tuning in to our collaboration! Remember that our friends at Day 1 Mortgage are here for you for all of your mortgage needs.

Lou Barnes

Written by Lou Barnes

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