MBS Highway Daily Updates 01/24/2023
Current position: Carefully Floating
Stocks are lower, and Mortgage Bonds are trading near unchanged levels so far this morning.
Leading Economic Indicators
12 months from the peak, which was December 2021, we typically get a recession. That puts the first quarter in focus.
The Conference Board released their Leading Economic Indicators (LEI) index for December, showing that it declined 1% last month, following a 1.1% decline in November.
The LEI is now down 4.2% over the last six months and has been in contraction for 10 months in a row. The Conference Board explained how the rollover in indicators and trajectory over the last six months is a recession signal that has been highly accurate historically.
A recession causes economic activity to slow, bringing down inflation and, in turn, mortgage rates. This coincides with our thoughts on the Consumer Price Index (CPI) inflation report coming down significantly in the first half of the year and mortgage rates declining to 5%.
Other Recessionary Indicators
There are other indicators also flashing recession signs: A normal yield curve is up and to the right, meaning that as you invest money for a longer period of time, let's say in a 10-year Treasury vs. a 2-year Treasury, you would expect to get a higher rate of return for committing your money for longer. But we are seeing an inverted yield curve, where short-term yields are much higher than long term yields, which is a symptom of weakness in the economy and has been a reliable recession indicator in the past. Take a look at some of the inversions:
10 - year minus 1 - month: -106bp
10 - year minus 3 - month: -120bp
10 - year minus 1 - year: -119bp
10 - year minus 2 - year: -72bp
The 10 - year minus 2 year inversion has been inverted for 7 months in a row. Add to the fact that Leading Economic Indicators has contracted for 10 months in a row, and it appears to be very likely we are either in or headed for a recession in the near term.
PCE on Friday
The big news of the week comes on Friday with the Fed's favorite measure of inflation, Personal Consumption Expenditures (PCE). Expectations are for the Core rate, which strips out food and energy pricing, to decline from 4.7% to 4.4%. This is the figure the Fed wants around 2%—so there is still more work to be done. We think there is a good chance that the figure comes in as expected or maybe even a little lower at 4.3%. A decline in the Fed's favorite inflation gauge should be bond-friendly.
We believe the index could get under 3% when we get the June data in July or the August data in September, in which case the Fed will have to acknowledge that inflation has been brought under control.
Mortgage Bonds continue to trade in a well - defined range between support at the 25 - day Moving Average and overhead resistance at 101.671. Bonds are once again testing support, which is holding for now. If this level is broken, the next stop is the 50-day Moving Average, not too far from current levels.
The 10-year is trading at 3.52%, right in the middle of a wide range between support at 3.43% and a quadruple ceiling of resistance, starting at 3.62%. While in such a wide range, yields can be susceptible to whipsaws or big price movements before reaching important technical levels. With support holding on Mortgage Bonds, continue carefully floating.