Current position: Carefully Floating
There will be a bond coupon rollover after the close of the market today. This occurs each month because mortgage bonds are finite. They have an end term, such as 30 years. Therefore, each month, a new 30-year period begins. This new 30-day extension is reflected in an adjusted rollover price. This rollover does not impact your pricing.
Stocks and mortgage bonds are both lower to start the day.
Thoughts on CPI
Tomorrow morning, the highly anticipated April Consumer Price Index report will be released. Back in January, we had predicted that this would be a favorable report and the beginning of when we felt inflation would start to make additional progress and rates would come down. We wanted to break down our thought process and what has changed (make sure to watch the video for the full breakdown):
One of the factors in predicting where year-over-year inflation will go is the monthly figures we will be replacing from the previous year. When we get tomorrow's 2023 April figure, it will replace the 2022 April figure in the year-over-year calculation. The higher the number you are replacing, the easier it is to replace it with a lower number and for year-over-year inflation to decline.
When we originally put out our forecast, the comparisons started to move up in the April 2022 reading, which is released in May. We also thought that shelter costs, which have been lagging behind, would start to catch up and reflect the deceleration we have seen in the real world. In February, the BLS changed their methodology and adjusted some of the figures over the previous years, including moving the April 2022 number lower. This makes the comparison a little tougher, but we still felt we would see some progress.
Additionally, looking at the recent shelter readings within the inflation reports, they have started to crest and move lower. We knew that after the OPEC production cut and subsequent rise in oil prices during April, it would work against us. But looking at the forecasts that were out last week, including trading economics, many were expecting 0.3% for Core CPI, replacing 0.47% from last year, which means we would have seen Core CPI drop by roughly 0.2% year over year, which would be a good thing for bonds.
However, when new data comes in, we have to report it to you and not ignore it. Sunday evening, JPM Chase and Goldman Sachs released their estimates, which have to be respected. They felt that the inflation reading would come in at 0.43% and 0.47%, respectively, meaning that we would not see much, if any, progress on core inflation.
They could be wrong, but we wanted to make you aware that there is a possibility that we don't see the turning point tomorrow but rather a little later. This does not mean that lower inflation is cancelled, as every brilliant mind in the economy we speak with agrees that it is coming down. We know that we made a call to circle May 10 as the beginning of when we thought we would see rates come down, not the destination. We are not perfect, and while tomorrow could still show some progress, we may have been a little early.
We hope that you can understand our logic and reasoning, and some of the things that have changed. Interest rates are still going to come down; hang in there.
Senior Loan Officer Survey
The Fed's senior loan officer survey, which was done around a month after SVB collapsed, showed that lending continued to tighten. Banks most frequently cited an expected deterioration in the credit quality of their loan portfolios and in customers' collateral values, a reduction in risk tolerance, and concerns about bank funding costs, bank liquidity positions, and deposit outflows.
There were tighter lending standards for small, medium, and large businesses, with less loan demand. As credit conditions continue to tighten, it has a slowdown effect on the economy and is another contributor to a recession.
NFIB Small Business Optimism Index
The April NFIB Small Business Optimism survey fell to its weakest level in over 10 years, with almost all of the components weakening.
On inflation-compensation plans and higher selling prices, moderated The earnings outlook, capital spending plans, and those that expect higher sales all dropped. Those that expect a better economy fell to near the lowest level on record.
All of this points to a slowing economy and a recession.
MBS Highway Housing Survey
MBS Highway's May 2023 Housing Survey showed that home prices have passed an inflection point and are moving higher. This marks the fifth straight month of improving activity levels and sentiment. 72% of respondents characterized their local buyer activity as "very active,", "somewhat active, or "steady, which is the highest level in nine months. Overall pricing pressure is now upward, with 53% of respondents reporting price increases versus only 19% reporting price reductions. The turnaround has been dramatic: in December 2022, only 3% of respondents reported price increases, while 78% reported price decreases.
Mortgage bonds are testing support at the 50-day moving average, which is an important floor of support. If this level is broken, there is a lot of room on the downside. The 10-year is flat and trading at 3.51%, a few basis points beneath the 200-day moving average. While the charts are always important, tomorrow's CPI report will likely dictate which direction bonds move in the near term. Begin the day carefully floating.