Squawk Trader – Sweet Futures (09-24-14)

Published on 09-24-2014

Mortgage-dependent home buyers aren’t moving.

After a surge in refinances in the previous week, the volume of mortgage applications continued to slide as interest rates rose to their highest level in several months.  Total mortgage applications for the week ending September 19th fell 4.1 percent on a seasonally adjusted basis from the previous week, according to the Mortgage Bankers Association (MBA). “Following last week’s FOMC (Federal Open Market Committee) meeting, interest rates continued to inch up, as the end of QE (quantitative easing) was confirmed, and investors anticipate the first increase in short-term rates by the middle of next year,” said Michael Fratantoni, chief economist at the MBA. “Mortgage rates were higher for the week, so it was not surprising to see refinance application volume drop again. Purchase activity remains stagnant on a seasonally adjusted basis,” he said.

Applications to refinance a loan fell 7 percent week-to-week and were down 31 percent from a year ago. Applications to purchase a home were down 0.3 percent for the week and down 16 percent from a year ago. This is a larger annual gap than the market has seen in several weeks. “Purchase mortgage applications have trended down over the past three months, despite the declining interest rate environment,” noted Doug Duncan, Fannie Mae’s chief economist in his monthly economic outlook. “This suggests a residual conservatism on the part of consumers and supports our view that the pace of growth in the housing sector will be subdued during the remainder of 2014, with modest improvement in 2015.” The average contract interest rate for 30-year fixed-rate mortgages with conforming loan balances ($417,000 or less) increased to 4.39 percent, the highest rate since May 2014, from 4.36 percent, according to the MBA. However, rates are moving lower again. “Thankfully, that trend has since reversed and we began this week with slow, steady improvement. Compared to the damage done since late August, it’s not much, but it could motivate more locking and application activity this week,” said Matthew Graham of Mortgage News Daily.

U.S. new home sales race to six-year high in August.

Sales of new U.S. single-family homes surged in August and hit their highest level in more than six years, offering confirmation that the housing recovery remains on course. The Commerce Department said on Wednesday sales jumped 18.0 percent to a seasonally adjusted annual rate of 504,000 units. That was the highest level since May 2008 and marked the second straight month of gains. July’s sales were revised to show a 1.9 percent gain instead of the previously reported 2.4 percent drop. Economists polled by Reuters had forecast new home sales rising to only a 430,000-unit pace last month. While the new home sales segment accounts for only 9.1 percent of the housing market, the increase last month should allay fears of renewed housing weakness after a surprise decline in home resales last month.

A survey last week showed homebuilder sentiment hit its highest level in nearly nine years in September, with builders reporting a sharp pick-up in buyer traffic. In August, new home sales soared 50 percent in the West to their highest level since January 2008. Sales in the populous South increased 7.8 percent to their highest level in 10 months. In the Northeast, sales rose 29.2 percent, but were flat in the Midwest. Despite the rise in sales, the stock of new houses hit its highest level in four years. At August’s sales pace it would take 4.8 months to clear the supply of houses on the market. That compared to 5.6 months in July. Six months’ supply is normally considered a healthy balance between supply and demand.

ECB’s plans to revive bank lending leave economists unconvinced.

Bank lending to private euro zone businesses needs to grow at a 3 percent annual rate on a sustained basis in order to stir inflation, according a Reuters poll of economists who say that is not likely to happen. In the latest monthly survey on European Central Bank policy taken Sept. 22-24, forecasters were also skeptical over whether the bank’s latest offer of hundreds of billions of cheap cash in exchange for lending will even work. The consensus forecast is that banks will take up 175 billion euros at the next tender in December, which would take the total from two tenders to about 140 billion euros short of the 400 billion the ECB has put on offer. That echoes views from money market traders polled earlier this week and suggests that bank lending, which has been contracting for years and at last measure fell by 1.6 percent on an annual basis, is weak because of insufficient demand, not supply. “Things like this (TLTROs) are untried and untested and whilst in principle we can see it having some positive effect, it’s difficult to be confident about how well it is going to work,” said Philip Shaw, chief economist at Investec. The ECB is not expected to announce any changes to policy at its meeting next week.

It surprised markets this month by cutting its already miniscule refinancing rate to just 5 basis points, as well increasing its charge for overnight deposits to 20 basis points. But with lackluster demand for the ECB’s cash, despite the lower cost of borrowing coupled with risks of deflation and weak economic growth across the region, the central bank may eventually have to buy government debt. Economists placed a 40 percent probability of the ECB buying sovereign bonds, the kind of stimulus programs undertaken by the Bank of England and U.S. Federal Reserve. The difference is the BoE has long shut its money printing press while the Fed will likely end its stimulus next month. Among its peers, only the Bank of Japan continues to buy asset-backed securities, government debt and exchange-traded funds, although inflation there is expected to stay below the central bank’s target well into the future.

In the euro zone, inflation rose to just 0.4 percent in August, slightly higher than July’s 0.3 percent but widespread unemployment in member countries is unlikely to spur demand for goods and services, preventing a swift rise in prices. “Monetary policy is likely to have a limited impact on an economy with such serious structural problems as the euro zone,” said Stephen Lewis, economist at ADM Investor Services. To arrest declining inflation and boost lending, the ECB earlier this month announced a program to buy asset-backed securities and covered bonds – a market considered fragmented and in its early stages in the euro zone. The ECB will likely spend 300 billion euros in that program over two years, the poll showed. The euro EUR= has weakened just over 2 percent since the start of September as markets geared up for policy action from the ECB. That weaker exchange rate should help make imports costlier, giving a slight boost to overall inflation. Still, taken together, it means the ECB will eventually expand its balance sheet by only about half of the just over one trillion euros it lent out under the long-term refinancing operations in late 2012 and early 2013. “The one message that the crisis has taught us in terms of non-standard measures is that liquidity does not necessarily lead to lending,” said Shaw at Investec. “At the end of the day, you have to have demand for that credit for those policies to work. And the extent to which firms and households want to borrow is questionable.”

Yellen Warns on Market Calm Before ‘Considerable Time’ Up.

Federal Reserve Chair Janet Yellen says she wants investors to be prepared for the possibility that the Fed will raise interest rates sooner than they currently project. Her words are going unheeded. Volatility across stocks, bonds and currencies worldwide is close to record or multi-year lows, even after Yellen cautioned last week that the Fed’s commitment to keep interest rates near zero for a “considerable time” could change if U.S. economic performance continues to exceed expectations. This absence of wide swings in trading values reflects investor complacency about the central bank’s intentions — and may be too much of a good thing for its policy makers as they consider retreating from years of low-rate pledges that suppressed borrowing costs and fueled a recovery from the worst recession since the Great Depression. The danger: unexpected economic strength may speed up the timetable for tighter Fed policy, prompting a sudden surge in volatility that could jeopardize the expansion. “The risk is that the Fed ultimately does tighten policy in the way that it’s expecting and is communicating, and markets have to adjust up very quickly in a disorderly way,” said Laura Rosner, a U.S. economist at BNP Paribas SA in New York and a former New York Fed researcher. Bank of America’s MOVE Index of Treasury swings fell to 57.43 yesterday, close to its lowest level in data since 1988. The Chicago Board Options Exchange Volatility Index, which measures swings in stocks, was at 14.93, compared with a 20-year average of 20.75. The JPMorgan Global FX Volatility Index was at 7.38 percent, still near a record low of 5.29 percent in July and down from a 20-year average of 10.46 percent.

‘Considerable Time’

Contributing to the markets’ quiescence is the Fed’s decision at last week’s meeting to retain assurances that the benchmark interest rate will stay low for a “considerable time” after the central bank ends a bond-purchase program intended to spur growth. And once the rate is raised, investors are projecting a slower pace of increases than the Fed itself. Fed officials began to rely on forward guidance to keep yields low in short-term debt maturities after cutting the federal funds rate almost to zero in December 2008. Bond purchases, which have pushed down long-term yields, were another easing tool. Now, with unemployment down to 6.1 percent from a 26-year high of 10 percent in 2009, the Fed is planning to end bond purchases after its October meeting. The Fed’s estimate for full employment, one of its policy goals, is 5.2 percent to 5.5 percent.

First Increase:

Officials, who project the fed funds rate will rise next year for the first time since 2006, are debating a change to their forward guidance. The rate represents the cost of overnight loans in the interbank market. While policy makers retained the language this month, Yellen used her post-meeting press conference to assert that the Fed’s guidance depends on how the economy evolves. “It is important for markets to understand that there is uncertainty and that the statement is not some sort of firm promise about a particular amount of time,” Yellen said. If economic performance trails expectations, rates will stay low for longer, she said. If it’s better than forecast, rates could rise more quickly. Other officials have reinforced that message. St. Louis Fed President James Bullard said yesterday that the Fed may need to drop its pledge next month. “I don’t think it is state-contingent enough,” said Bullard, who will have a vote on policy in 2016. “I would like to get the committee to move to something that is more data dependent.”

Policy Bellwether:

Bullard is seen as a bellwether because his views have sometimes foreshadowed policy changes. He published a paper in 2010 entitled “Seven Faces of the Peril,” which called on the central bank to avert deflation by purchasing Treasury notes. That was followed by a second round of Fed bond buying. Yellen wants to retain flexibility and react to gyrations in economic data after a 2.1 percent contraction in the first quarter gave way to a 4.2 percent jump in the following three months, said former Fed Governor Randall Kroszner. “They’re not sure how the economy is going to evolve,” Kroszner, who teaches economics at the University of Chicago, told Bloomberg Radio on Sept. 19. “It really is about the data.”

Investor Expectations:

Market calm is being supported in part by investor expectations that the path of interest-rate increases is likely to be shallower than the Fed itself projects. Federal funds futures expiring in December 2015 trade at 0.74 percent, compared with Fed officials’ median projection of 1.375 percent for the end of that year in forecasts issued Sept. 17. The divergence is even wider for the end of 2016, when futures traders see a federal funds rate of 1.8 percent, while Fed estimates call for an increase to 2.875 percent. The divergence shows “the public might not give enough weight to how dependent the central bank’s guidance is on both current and incoming data,” researchers at the San Francisco Fed wrote in a Sept. 8 report. Some officials at the June Fed meeting said they viewed low volatility, as well as signs of increased risk-taking, as indications investors weren’t “factoring in sufficient uncertainty about the path of the economy and monetary policy,” according to minutes of the gathering.

Getting Message:

Still, Treasuries are starting to react more to better-than-expected economic data, showing that investors are starting to get the message, according to Eric Green, head of U.S. rates and economic research at TD Securities USA LLC in New York. “The correlations are rising, and the response of the market to the data is increasing,” Green said, citing research by his team showing bigger moves in securities tied to rates. “Markets aren’t as far away from what the Fed’s telling them.” Central bank officials may have created a dilemma for themselves similar to one they faced in May 2013, when then-Chairman Ben S. Bernanke suggested that the Fed’s asset purchases could end sooner than expected, said Kathleen Bostjancic, a financial-market economist at Oxford Economics in New York. Bernanke’s comments caused a more than one percentage-point jump in 10-year Treasury yields in a move dubbed the “taper tantrum.” A repeat of that surge may erode economic growth and cause a 10 percent decline in U.S. stocks, Bostjancic said. To prevent such a reaction, the Fed should start preparing markets with more hawkish language sooner rather than later. “They’re overly fearful about an adverse reaction in the bond market, so they’re using this excessive guidance, and the longer they use it, the harder it gets to change it,” Bostjancic said. “Low volatility amplifies the risk greatly and the chances you have some turbulent reaction.”

WTI Trades Near 16-Month Low Before Stockpile Data.

West Texas Intermediate traded near the lowest price in more than 16 months on estimates that crude inventories increased last week in the U.S., the world’s biggest oil consumer. Brent fell in London. Futures were little changed in New York. Crude stockpiles probably expanded by 750,000 barrels last week to 363 million, according to a Bloomberg News survey before an Energy Information Administration report today. Saudi Arabia and Qatar are among the countries that joined the first wave of U.S.-led air strikes in Syria against Islamic State. “The market focus has shifted from supply risks to oil glut fears to weak oil demand,” Giovanni Staunovo, an analyst at UBS AG in Zurich, said by e-mail. There is “strong crude oil supply in the U.S.” WTI for November delivery was at $91.55 a barrel in electronic trading on the New York Mercantile Exchange, down 1 cent. The contract closed at $91.52 on Sept. 22, the lowest since May 1, 2013. The volume of all futures traded was about 16 percent below the 100-day average for the time of day. Prices have decreased 7 percent this year. Brent for November settlement fell 27 cents to $96.58 a barrel on the London-based ICE Futures Europe exchange. The European benchmark crude traded at a premium of $5.05 to WTI on ICE. The spread closed at $5.29 yesterday, the narrowest level in a week.

Fuel Supplies:

U.S. crude stockpiles increased for the first time in five weeks through Sept. 12, reaching the highest level since 2012 for that time of the year. Production rose by 248,000 barrels a day to 8.838 million, the most since March 1986, according to the EIA, the Energy Department’s statistical arm. Distillate inventories, including heating oil and diesel, expanded by 500,000 barrels in the week ended Sept. 19, the median estimate in the Bloomberg survey of 11 analysts showed before today’s EIA report. Gasoline stockpiles are forecast to be unchanged at 210.7 million. “Weak demand, rather than rampant supply growth, is currently the Achilles heel of the market,” Amrita Sen, chief oil analyst at consultant Energy Aspects Ltd., said in a report. “Even in the U.S., despite strong economic momentum, most of the post-recessionary increase for oil demand is now largely behind us.” In Syria, the bombing of Islamic State militants was carried out by the broadest Arab-U.S. military coalition since the 1991 Gulf War. Fighter jets, bomber aircraft and drones hit 22 targets near the militants’ stronghold of Raqqa and along the Iraqi border, according to the U.S. military. WTI has technical support along its lower Bollinger Band, data compiled by Bloomberg show. Futures have halted declines since July near this indicator, at about $90.60 a barrel today. Buy orders tend to be clustered around chart-support levels.

Russian Outlook Dims for World Bank as Consumption Wilts.

Russian consumption, which accounts for about half the $2 trillion economy, is falling victim to tensions over Ukraine, stalling the country’s “main growth engine,” the World Bank said in a report today. Consumption growth will probably slow to 0.5 percent in 2015 and 0.6 percent in 2016 from about 2 percent this year, under the World Bank’s baseline scenario, which sees a period of “near-stagnation.” Gross domestic product will expand 0.5 percent in 2014, compared with 1.3 percent last year, and gain 0.3 percent in 2015 and 0.4 percent in 2016, the lender said. “Consumption growth is currently moderating to a new and lower growth trajectory in an environment of subdued consumer sentiments,” the Washington-based bank said. “Geopolitical tensions are weighing down further on consumption growth.” The showdown with the U.S. in Europe over the conflict in Ukraine is tripping up consumer demand and investment by driving down the ruble, fanning inflation and stifling credit. Consumption, which contributed 4.7 percentage points to economic growth in 2012, will be “profoundly” depressed by factors including growing household debt and high inflation expectations, undermining demand for the next two years, according to the World Bank. The European Union and the U.S. blame President Vladimir Putin for the unrest in Ukraine and have imposed sanctions targeting Russian individuals, companies and the nation’s finance, energy and defense industries. Russia, which denies involvement in the conflict, retaliated by banning a range of food products from nations that have penalized or supported measures against it.

Ukraine Impact:

“Structural impediments slowed economic expansion to near stagnation even before the impact of increased policy uncertainty amid increased geopolitical tensions took hold,” the World Bank said. “The Russia-Ukraine tensions negatively impacted already low business confidence in the economy and further depressed investor sentiment.” Consumption contributed an estimated 0.8 percentage point to economic growth in the second quarter, down from 2 percentage points in the previous three months, according to the World Bank. Price growth is set to accelerate to 8 percent by this year before slowing to 7 percent in 2015 and 5 percent in 2016, the World Bank estimates. Inflation quickened to 7.6 percent from a year earlier in August, staying above the central bank’s target for two years. “A return to higher growth in Russia will depend on solid private investment growth and a lift in consumer sentiment, which will require a predictable policy environment,” the World Bank said.

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