Inflation To Fly? Bond Yields Hitting Mortgage Rates
A: Real Time Economics had a post yesterday stating a call by JP Morgan economist Michael Feroli that headline CPI will hit 5%. Why is this not startling? Because we only have one more month of statistical wizardry, before the seasonal adjustments are removed from inflation data; finally showing in the data reports what we see everyday! Today, bond yields continue to surge, causing mortgage rates to follow suit. Let's see what a mortgage insider sees right now as a result of all this.
Maybe by talking about it more, will lead to less of a shock when the data comes out? Ehh, who knows. Last week I wrote a piece titled, "Inflation: One More Month of Statistical Wizardry", that focused on an article in The Post quoting a government official responsible for calculating government inflation data:
"We are going to show huge increases," predicted Pat Jackman in a telephone interview with me last week. "If gas prices are stable from May forward, we are going to end up showing roughly a 16.3 percent increase [for the period] between May and December."When I see what the bond market is doing (which by the way is causing some havoc in the mortgage markets with higher rates in the past week or so), I get the same feeling I got a few weeks ago: bond market is pricing in future inflation risks, not growth prospects.
But it's downhill from there. "Beginning in June," Jackman said, the seasonal adjustments "will start adding in" inflation, which will be reflected in July's CPI. Why? Because the government changes all of its figures to reflect the seasons. Here's the one thing you need to know about seasonal adjustments: what goes in, must come out.
On May 7th, I discussed the steepening yield curve after KC Fed President Thomas Hoenig warned of inflation risks and what this likely signifies for near term:
a) heightened inflation expectations/concernsI'd continue to stick with a,b, & c from the above and disagree about the mildness of the economic slowdown. It's hard to imagine higher rates at a time when the economy seems to finally be stabilizing from the potential threat of systemic collapse to the financial system. I mean look at what we are dealing with here: continuing housing recession, tighter credit conditions, surging food & energy prices, negative wealth effect from stock markets and home values, softening jobs market, and on and on. Now we may have to deal with higher rates too?
b) rates expected to rise in medium term
c) US dollar support
d) economic slowdown/recession expected to be mild
Take a look at what the 10YR has done over the past 3 months:
In the last few months, the 10-YR yield is up about 79 basis points from 3.31% to what looks to be about 4.104% right now. Thats quite a move considering there was no move by the fed, but then again, it seems like there didn't need to be! In my opinion, the bond market is pricing in a future environment where inflation reports are going to start showing what many have feared, yet expected, for a while now --> a SURGE in headline inflation that will cause the fed to turn hawkish with rates! Starting in July, let's see how it comes out.
For now, us Manhattan real estate junkies can expect lending rates to be surprisingly higher than what it was only a week or two ago! From one of my trusty anonymous mortgage insiders, I get this real-time update to my question:
My Question:
I am hearing rates have surged in past 1-2 weeks with bond market? True? Also, I am hearing about tighter standards for condo financing? Any update?Anonymous Mortgage Insider's Answer:
"Rates are HORRENDOUS, they have surely sky rocketed in the past 2 weeks. Currently I'm at 6.375%/6.50% on a conforming 30 year fixed. As far as 90% lending on condo's, this is a very touchy subject. I'll explain why.Great stuff from the front lines! Calculated Risk recently discussed a Judge's ruling that a National City 'Stated Income HELOC' that had been foreclosed out, would be discharged; setting up more losses for holders of these distressed loans and/or the securities derived of these products. Clearly this having an effect on the perceived risks of HELOC's in the mortgage markets.
If it is the 80/10/10, then your info is correct; banks are no longer providing home equities up to 90% due to the destruction of the entire Home Equity line of products. They are by far one of the most riskiest products a bank can offer at this point in time.
However, if you are talking about straight 90% financing (with PMI), then your info is not correct as I know for a fact that I can still do it. HOWEVER, I can only provide it in Manhattan because every other area of NYS is deemed a declining market and we must take 5% off the maximum lending LTV. So essentially 90% minus 5% = Maximum 85% financing outside of Manhattan."
Posted by Investor Llew
Fri May 30th, 2008 12:24 AM
Hi Noah,
I've been an enthusiastic reader of your blog. Very good stuff.
It is so important that both Home Owners and Investors alike understand the movements of Rates, both on the Treasury Bonds and Mortgage Products when they choose financing.
If that were the case in the last 3 or 4 years when Mortgage rates were at it's lowest, locking in the rates by chosing a long term fixed mortgage would have seemed very smart.
In fact, I called it a difference between a Professional and an Amateur. The Amateur choses for today but the Professional choses for tomorrow.
As an owner of several Small Residential Rental buildings in Brooklyn, I have locked in every Mortgage and HELOCs I had. Even when the lock in rates had a seemingly significant rate spread of a few points, I know I will be benefiting over the next 20 to 30 years as my Mortgages matures.
It also looks like the Manhattan Inventory has flattened out from it's most recent spike up to about 8,000.
The Dollar seemed to have strengthed slightly in the last week as well. I think you correlated the strength (or weakness) of the Dollar against Currencies (and European Currencies in particular) to Manhattan housing sales and prices in a past posting. The weakened Dollar helped keep Manhattan's market bouyed.
How about looking into OIL prices as it continues to climb, correlate that to the migration of people towards big city where there is better transporation (NYC has the best public transporation I believe) and adding in unemployment?
I'm not talking about Nationally, just NYC. Nationally, there will be different reactions.
But for NYC, rising inventory (negative), Higher Mortgage Rate (negative), Strong Dollar (negative due to foreign investors), Higher OIL and gasoline prices (big plus due to migration of ppl towards cities like NYC) and Unemployment (I suspect will increase as the Dollar gets strong so I'm calling it negative) may still keep Manhattan home prices stable.
What about Residential Rents? Do you anticipate a spike in Rents as prices stabilize?
Posted by uwsider
Fri May 30th, 2008 10:38 AM
Great information!
In light of this, what are your thoughts on how this may affect Manhattan RE prices and how one should invest in the stock market in the next 6-12 months?
Posted by Noah
Fri May 30th, 2008 11:56 AM
InvestorLaw - Thx for comment and for reading. I do agree with some points you make a differ on others. For example, higher energy prices may in theory make more people to want to migrate to NYC, but I wonder, can they afford it given price appreciation here? Also, as energy prices rise, so do maint costs for homeowners, adding to restricted affordability.
As for bond market tied to lending rates, there certainly was no correlation during the meat of the credit crisis, I would estimate from OCT - MARCH, where bond yields fell yet lending rates stayed put or even trickled higher due to the repricing of risk in mortgage markets and seizing up of secondary mortgage markets. Now that credit markets show some signs of easing, it seems lending rates are reacting to bond yield movements again a bit more closely.
As for rents, NO. I dont. I see softness in Manhattan real estate due to decline in buyer confidence and job insecurity. Neg wealth effect of stocks correcting and rising inflation expectations and costs in general. I dont buy into the theory that if sales slows, more people rent and therefore rents surge. Rents are sensitive to macro, job losses, and an economic slowdown just like other asset classes are.
Posted by Noah
Fri May 30th, 2008 11:59 AM
uwsider - hey, long time! hope all is well.
I never like to give out stock advice here. I may discuss the equity markets from time to time, but try no to predict. With that said, I still have concerns over equities if consumer is really tapped out and inflation/employment reports ACTUALLY show trends in reality! Think about how stocks will do after an unemployment report is released that shows a jump from 5% to 5.4% or so. Or, an inflation report where core/headline CPI surges because seasonal component is removed.
My prediction in Dec for stocks was negative, and for likely a negative year. Fact that its election year makes it that much more volatile though, so who knows.
Posted by Noah
Fri May 30th, 2008 12:01 PM
for real estate, take a look at the charts! It tells a story I think about buyer confidence in general over past 4-6 months. I think a very small percentage of the total announced job cuts so far has actually been executed, and yet, more are expected. So, I would expect softness to continue for a bit longer.
We made a huge jump in inventory, so even if we flatline here for a while, it is telling.
Posted by shong
Fri May 30th, 2008 05:20 PM
Rates have been horrendous. But Im surprised to hear that there is a 5% hit outside of Manhattan. Yes, a 5% LTV hit for LI but not the other boroughs. I know some lenders have enforced this. Maybe a sign of more guidelines being tightened. sunny_hong@countrywide.com
Posted by Brenda
Fri May 30th, 2008 08:42 PM
Also, I think we have to keep in mind that although NYC is king, other areas can be lesser nobles. At some point the huge addition of properties in Brooklyn and other areas DO affect Manhattan rental rates. That has to have been what has been happening, as vacancy rates YOY seem to be increasingly modestly, despite little growth (so far) in rental property development and a large increase in conversions and properties being demolished for development. All in all, it's stunning that rental rates haven't shot up. And that's telling.
Posted by Brenda
Fri May 30th, 2008 08:43 PM
Sorry, I mean Manhattan when I made the "NYC is king" remark. Bad. On a couple of levels.