It was nearly impossible to avoid news regarding the debt ceiling this week, but how much does it actually matter? Let's make sure we're on the same page first. What follows are a few NON-POLITICAL thoughts on the debt ceiling, which is different than a "default." The debt ceiling has to be increased periodically in order for the US government to borrow enough money to fund day to day operations. There's theoretically a point at which the government doesn't have enough money to make payments that it had already agreed to make in the past. That money can come from the issuance of Treasury debt (i.e. borrowing) or from sources of revenue (such as taxes). In that theoretical scenario, the US could default on its obligations and that would be incredibly serious. A missed payment on Treasury bills, for instance, could cause major fallout in financial markets. It has never happened and is all but guaranteed to not happen this time either. We can't know with certainty exactly how long the government could make ends meet if it really had to, but it's certainly longer than claimed, regardless of any drop dead dates you may see in the news. That leaves us with what is mostly an exercise in political theater and/or brinksmanship on both sides of the aisle (no value judgments in this newsletter, ever). Despite that, some traders take logical, defensive measures JUST IN CASE this happens to be the time where we finally see a default (even if it's very temporary and heavily qualified).
Bonds Diverge Over Data Implications
It's been a consistently bad week for the bond market and this morning's data offers little objection. But the damage is playing out in an uneven way with shorter term yields moving higher much faster than long term yields. This is to be expected to a large extent due to Fed rate expectations' stronger correlation with shorter-term yields (MBS are somewhere in the middle). As such, 10yr yields are managing a fairly flat day despite higher PCE inflation, and 2 year yields are up 6+bps.
Econ Data / Events
Core PCE M/M
0.4 vs 0.3 f'cast, 0.3 prev
Core PCE Y/Y
4.7 vs 4.5 f'cast, 4.6 prev
Durable Goods
1.1 vs 0.7 f'cast, 3.2 prev
Durables ex defense/aircraft
1.4 vs -0.1 f'cast, -0.6 prev
Incomes
0.4 vs 0.3 f'cast, 0.3 prev
Outlays/spending
0.8 vs 0.3 f'cast, 0.1 prev
Consumer Sentiment
59.2 vs 63.5 prev
1yr inflation expectations
4.2 vs 4.6 prev
5yr inflation expectations
3.1 vs 2.9 prev
Market Movement Recap
09:52 AM Slightly stronger overnight, but quickly weaker after AM econ data. 10yr up 1bp at 3.834 and MBS down an eighth.
10:16 AM recovering after Consumer Sentiment data (lower inflation expectations). 10yr down 3bps at 3.794. MBS up 1 tick (0.03).
12:41 PM 2 way volatility after the last update. 10s were as high as 3.859 but now back down to 3.824 (roughly unchanged). MBS are down just under an eighth of a point.
Did you know that wheat futures prices are at a 2-year low? And lumber prices continue to drop? Those numbers should help reduce inflation. During the conference in NY there was plenty of talk about external influences such as price increases on residential lending. But there are also plenty of issues within our biz that face lenders daily. For example, signing bonuses continue, albeit at a slower rate. Perhaps some of the economic bloom is off the bonus rose? Big signing bonuses come with big handcuffs. It stinks when a competitor takes your production but not your overhead, right? With the help of technology and tracking, a lender’s management can, more than ever, determine whether a given branch or LO is making money for the company, or is merely a source of concessions and extensions. Recruiters sometimes talk of the “greater fool” theory when bad LOs or branches move on to another lender. (Today’s podcast can be found here and this week’s is sponsored by Black Knight. From point-of-sale through post-closing, the company’s trusted loan origination system, Empower, as well as its integrated, end-to-end origination solutions deliver unmatched capabilities, functionality, and support to increase processing efficiencies and lower operational costs for lenders. Hear an interview with Polunsky Beitel Green’s Stacey Maisano on women in the mortgage industry and getting the younger generation involved.) Lender and Broker Products, Software, and Services
It was bad news but big news a few days ago when the average top tier 30yr fixed rate made it back to 7% for the first time since early March. After trying to stage a modest recovery yesterday, the pain continued today. The bond market (which dictates day to day rate movement) is experiencing more volatility than normal due to the debt ceiling debate. It's causing traders to be more defensive than they otherwise might be heading into the holiday weekend. The average lender was almost right in line with 7% over the past two days, but moved up closer to 7.125% today. That's the highest since November 9th, 2022. Tomorrow's PCE inflation data could cause more volatility, for better or worse, depending on the results, but true healing would require downbeat data in the week ahead. [thirtyyearmortgagerates]
Debt Ceiling Debate Volatility Causing Issues For Bonds
Treasuries sold off in a linear fashion today--much more aggressively than MBS. The debt ceiling debate is the most logical scapegoat considering the direct implications for the US government's borrowing capacity. It's not that the bond market doesn't already know that the debate will be resolved before default, but it does provide a series of tradeable headlines allowing traders to capitalize on the volatility inside the broader range. The trade of the day has been to push yields higher in anticipation of a deal. We also shouldn't rule out the massive rallies seen in short-term bills. These were initially sold en masse with traders parking the money farther out the curve. With an end in sight, it's not unreasonable to expect those trades to be unwound.
Econ Data / Events
Jobless Claims
229k vs 245k f'cast, 225k prev
Q1 GDP Prelim
1.3 vs 2.9 f'cast, 1.1 prev
Market Movement Recap
08:54 AM Bonds had been unchanged after the AM econ data, but are losing ground on the prospect for a near-term debt ceiling deal. 10yr yields are now up 4.6bps at 3.79 and MBS are down just over a quarter point.
01:37 PM Steady weakness all day in Treasuries with 10yr up 5bps at 3.794. MBS down only an eighth--outperforming.
03:08 PM snowball selling in Treasuries with 10yr up 8bps at 3.82+. MBS are down less than 3/8ths, but at their lows of the day.
Despite vague hints of support over the past few days, the bond market is back to the same old tricks seen last week. It's actually a pretty simple trick: ignore the buy button while hitting the sell button. Today's installment is drawing inspiration from ongoing resilience in Jobless Claims data, the promise of a debt ceiling resolution, and the supply headwinds associated with the Treasury auction cycle.
Many people have asked us some iteration of the question, phrased as a statement: "But I thought that bonds would ______ when the debt ceiling deal happens/doesn't happen?!"
Let's clear this up with bullet points. And keep in mind, this is just my opinion on the matter, but I'm pretty sure recent trading has validated it.
The debt ceiling debate is a separate issue from the US government defaulting on its debt.
Failure to secure a deal before some imaginary "deadline" doesn't mean the US will default
Default has never happened. It would be catastrophic, perhaps, simply for operational reasons in the global financial system. It almost certainly won't happen now, and the market isn't trading default risk when it trades the debt ceiling. That said, some ultra short term bonds are trading the prospect of delayed payments as a part of some emergency workaround (bottom line here: no one believes the US is insolvent. Everyone knows politicians are playing political games).
No one knows how long the US could pay its bills without a debt ceiling deal, but it's guaranteed to be a LOT longer than anyone has claimed. All of the claims are negotiation tactics.
In general, debt ceiling drama is "risk-off" for markets. It is a net positive for bonds. And yes, this is counterintuitive if you associate debt ceiling drama with default risk, as most people logically, but mistakenly do.
That means a debt ceiling deal would put upward pressure on rates. This is what we've seen with various headlines and the promise of progress recently.
All that having been said, the debt ceiling is not a market mover in a lasting sense. It's a zero sum game for long-term momentum. It only creates short to medium term volatility that allows traders to capitalize on headlines. The only exception would be to whatever extent the whole ordeal saps confidence and economic activity. In that sense, it's net positive for rates.
In other words, rates are at the highest levels in months and it has nothing to do with the debt ceiling. In fact, if there were no debt ceiling debate this year, rates might be even higher.
Yields had entered the sub 3.60 range (or "re-entered," to be fair) in March after the SVB failure. They were waiting to see fallout from banking issues that has thus fair failed to materialize. If that fallout remains missing, it's logical for rates to tiptoe back toward early March levels, assuming econ data isn't deteriorating for other reasons. It's not. Moreover, the Fed has been right there to remind us of that fact, thus making the recent range breakout and additional weakness--dare we say--fairly logical.
The number of contracts to purchase pre-owned homes was unchanged in April. The National Association of Realtors® (NAR) said its Pending Home Sales Index (PHSI), a forward-looking indicator of existing home sales, remained at the March level of 78.9. The index had seen some improvement over the first three months of the year but is now down 20.3 percent on an annual basis. [pendinghomesdata] NAR Chief Economist Lawrence Yun attributed the lackluster sales during what is usually residential real estate’s most active season is due in part to ongoing inventory restraints. He added, “Affordability challenges certainly remain and continue to hold back contract signings, but a sizeable increase in housing inventory will be critical to get more Americans moving. ” While three of the four major regions saw an uptick in new sales contracts, those changes were negated by a sizeable decline in the fourth. The PHSI in the Northeast fell 11.3 percent from March to 59.1 and was 21.8 percent lower than the prior April. The Midwest’s index improved 3.6 percent to 78.4 which was down 21.4 percent on an annual basis. Pending sales in the South rose 0.1 percent to 99.6 in April while sinking by 16.7 percent year-over-year. A 4.7 percent increase in the West took that PHSI to 62.2, a 26.0 percent decline from April 2022. The Pending Home Sales Index is a leading indicator for the housing sector, based on pending sales of existing homes which are usually finalized within one or two months. The PHSI was benchmarked at 100 in 2001, a number equal to the average level of contract activity during that year.
My notes from the MBA’s conference this week continue, including talk about new home sales being +4.1 percent for the month (+11 percent year over year, bringing a smile to builders everywhere). Although most of the focus of the conference was on the secondary markets (although let’s face it, there isn’t a plethora of new investors or products), the primary markets continue to be a discussion topic. Some lenders have seen LOs move into the broker world, some have seen them come back. The transition to being a broker is not always “rainbows and unicorns.” It appears to have better “top line” revenue but what about the “bottom line” when a shop has to pay for their own benefits, marketing, IT support, etc. (STRATMOR has a fine write up on the subject below.) Lenders continue to examine the branch model, whether it is traditional or P&L (revenue) based. The MBA defines an “expense management” branch. These have a high upside, as long as they’re compliant, and hire whoever they want. But cutting back is tough, and management has to do a good job of setting expectations. (Today’s podcast can be found here and this week’s is sponsored by Black Knight. From point-of-sale through post-closing, the company’s trusted loan origination system, Empower, as well as its integrated, end-to-end origination solutions deliver unmatched capabilities, functionality, and support to increase processing efficiencies and lower operational costs for lenders. Hear an interview with Aidium’s Spencer Dusebout on CRM differentiators and ROI.)
Wednesday was a fairly volatile day for mortgage rates. The movement wasn't extreme, but there were a few lead changes. The day began with the average lender offering just slightly lower rates compared to yesterday. As the day progressed, bonds began to lose ground. Bonds dictate rates and when they lose ground, it refers to lower prices and higher yields/rates, all other things being equal. The losses were ultimately enough for most lenders to change rates in the afternoon, bumping up to levels that are just slightly higher than yesterday afternoon's. Lenders who did NOT change rates today would have more of an implied increase to deal with tomorrow morning based on the bond market's suggestions--assuming that tomorrow morning's bond market looks about like it does right now. The average lender is still over 7% for a top tier conventional 30yr fixed.
Today is Best Viewed as "In-Range Volatility"
Bonds began the day on the back foot as UK inflation crushed forecasts. Treasuries sold in sympathy, but found their footing before the start of the US session. From slightly lower opening yields, the rest of the day was spent selling, apart from a brief bounce surrounding the 5yr auction and Fed Minutes release. Yields were less than 3bps higher at the 3pm close and haven't gone much higher after hours. No one likes higher rates, but today is best viewed through the lens of in-range volatility. MBS can't quite make that claim as 5.0 coupons are a bit lower than they were yesterday, but 10yr yields traded under yesterday's ceilings. Nothing was decided in the bigger picture. The Fed is data dependent. Inflation is still too high. Corporate earnings suggest a resilient economy. And we're waiting until early June for more relevant econ data.
Econ Data / Events
S&P Manufacturing PMI
48.5 vs 49.0 f'cast, 50.2 prev
Services PMI
55.1 vs 51.5 f'cast, 53.6 prev
Market Movement Recap
09:44 AM MBS down an eighth of a point, underperforming. 10yr also losing ground, near AM highs, but still down 0.6bps at 3.692.
11:57 AM Steady weakness throughout AM hours and another pop of selling following debt ceiling progress headlines. 10yr up 2.8bps at 3.726. MBS down 9 ticks (.28).
02:04 PM No major reaction to FOMC Minutes. 10yr up 2.3bps at 3.721. MBS down a quarter point.
03:24 PM Modest gains until about 2:40pm, but losing ground since then. 10yr up 3bps at 3.728. MBS down 3/8ths with almost an eighth of that due to illiquidity.
