Current position: Carefully Floating
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Stocks and mortgage bonds are both higher following a stronger than expected job creation component within the ADP Employment Report, but wage pressures did moderate. Today is the conclusion of the Fed's 2-day meeting, with their statement at 2:00 p.m. ET and a press conference with Jerome Powell to follow.
Fed Meeting
Amazingly, the Fed is going to hike by 25 bp again today, which makes absolutely no sense.
They know inflation is coming down. The Producer Price Index, which is more of a leading indicator, has moved sharply lower from 11.7% to 2.7%; the CPI has come down sharply; and the Fed's favorite measure of inflation, PCE, has also declined significantly. And we know that shelter is the biggest cause of inflation and is lagging behind, but it will catch up.
- Powell tries to compare himself to Paul Volcker and is afraid to be head-faked by inflation. Back then, Volcker didn't wait for inflation to get much lower before cutting because he could see where the puck was going. He started cutting when the core CPI was at 14%! He may have jumped the gun the first time, but when he finally killed inflation, he started cutting when inflation was around 11%. He saw the trend, and he had the foresight to understand where inflation was going, which eventually went down towards 2%. Powell wants to get one more 25-bp hike in, even though all their economists think there will be a recession later this year. It's like someone eating cake the night before going on a diet. Powell is also missing all the signs:
- Leading economic indicators have been negative for 12 months in a row.
- The tight labor market is changing. There are now more mentions of job cuts from S&P 500 companies than labor shortages. This is a real-time indicator, not lagging, potentially skewed job data.
- They are hiking into a banking crisis. Over the last two months, three banks with a combined $550 billion in assets have failed, 50% more than the 511 banks that have failed since 2009. These are the second, third, and fourth largest bank failures in history.
- Traders are now smelling blood in the water and going after small bank stocks. Regional banks, as measured by the KRE ETF, are down 40% over the last two months. When investors short the stock and pressure it lower, those banks can’t raise capital, they can’t lend, and depositors see the weakness and withdraw their deposits. Another rate hike will only make this worse, as they will have more of a duration mismatch, and depositors will be even more incented to withdraw and invest in money market accounts or short-term treasuries.
- Let's not forget how important regional banks are; they make up almost 40% of all loans.
ADP Employment Report
ADP released their employment report, showing that there were 296,000 job creations in the month of April, which was almost twice as strong as the 150,000 expected.
Looking at the sectors, leisure and hospitality led the gains once again, adding 154,000 jobs. As we mentioned previously, those gains may be coming to an end soon. In April of 2019, there were 16.2 million employees in the sector, and with today's report, there are now 16.25 million, meaning we have eclipsed where we were in April pre-covid. There is likely not much more in the way of job gains from the sector that has been adding the most job creations each month.
ADP also reported that annual pay for job-stayers increased 6.7% year over year, down from 6.9% in the previous report. Job changers saw an average increase of 13.2%, down from 14.2%. While these figures are still high, they have been moderating and showing lower wage-pressured inflation, which the bond market liked.
Our good friend, Peter Boockvar, explained this morning that there has been some serious volatility in the four ADP reports seen this year, ever since they changed their methodology, which may be why the market is not respecting the headline job creation figure within the report. Smoothing this out, we have seen a year-to-date monthly job gain of 205,000 vs. 306,000 in 2022, an obvious slowdown notwithstanding the April print. The big BLS jobs report, which will get more attention, is on Friday.
Mortgage Applications
The MBA released their mortgage application data for last week, showing that purchases decreased by 2% last week after increasing by 4.6% last week. They are now higher in six out of the last nine weeks. Purchases are still down 32% from this time last year.
Interest rates fell slightly from 6.55% to 6.5%, with rates now about 1.125% higher than this time last year when rates were 5.375%. Refinances increased 1% last week and are now down 51% year over year.
Technical Analysis
Mortgage bonds have, for now, broken above their 200-day moving average. If they can sustain this break higher, there is a lot of room to the upside. The 10-year has broken beneath 3.43% and has room to move lower until reaching 3.30%. We are starting to see the move lower in yields and higher in MBS that we have been waiting for. Of course, this afternoon's Fed meeting will be important, but we believe we are headed for a favorable summer. Begin the day carefully floating, but remember to be on guard around 2:00 p.m. ET.
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