Mortgage Credit News by Louis S Barnes - September 24, 2021

Game change: the Fed has shifted cyclical gears from stimulus to withdrawal, and the 10-year T-note and mortgages have broken upward, out of the range prevailing since early August. Also in economic play, under murky rules: civics in China and the US.

There are five charts below the text here, first the 10-year, then the cumulative Fed holdings of Treasurys and MBS, then the Fed’s hated dot-plot of the future cost of money, and last the Fed’s 2017-2019 foolish attempt at “normalization.”

The Fed’s meeting concluded on Wednesday, but it took a day for markets to understand the new signals. Thursday was tough. Rates have not exploded, but 10s are 1.46% today (prior range was 1.19%-1.38%), and mortgages above 3.00%. Unless a surprise slowdown of the economy, or crisis, expect 10s and mortgages to rise through the winter at least another quarter-percent.

The temptation to over-analyze Fed words is unavoidable. Shoot, it’s the duty of markets and everyone in them.

Powell. As in the Fed’s recent custom, Chair Powell gave a press conference after the meeting, the transcript here. To me, it makes odd reading, especially the opening statement, a two-page litany of everything still Covid-wrong with the economy interrupted by few positives and policy notes, each of those attributed to meeting “participants.” I counted four in two pages; here are two examples, the second modestly insulting.

On inflation risk from supply chains, “These bottleneck effects have been larger and longer lasting than anticipated, leading to upward revisions to participants inflation projections for this year.”

“Participants generally expect a gradual pace of policy firming that would leave the level of the federal funds rate below estimates of its longer-run level through 2024. Of course, these projections do not represent a Committee decision or plan, and no one knows with any certainty where the economy will be a year or more from now.”

Nick Timiraos, now completing his book on the Powell Fed asked this: “Does the Committee have a different opinion than you do about the threshold for liftoff than you've articulated?” “If inflation remains higher during the course of 2022, then we may already have met that test by the time we reach liftoff. So I just think, if you look at what people are writing down for year end 2022 numbers, some people are writing down very low unemployment rates....” “People” being participants.

Who is in charge, here? The FOMC, the committee which establishes policy is the seven Congressionally appointed governors plus four of the twelve regional Fed presidents. The eight regionals not on the committee always have plenty to say, and a majority months ago made clear their discomfort with stimulus, and inflation no matter how transitory. The record of the twelve regionals has been abysmal for decades.

Quarterly at meeting-end, the Fed adds to its words the dot-plot of future moves. (Mr. Churchill after brief tenure as Chancellor of the Exchequer complained that he “simply could not keep track of the damned little dots” -- the UK notation in big numbers for which we use commas and decimal point.)

The dot-plot after this meeting has caused the damage. Tapering bond-buys beginning next month and concluding next summer is NOT a big deal. Market analysts -- the ignorant joined by political red-meat tossers -- still insist that the QE bond buys are designed to push down rates. Not so: their overriding purpose is to stabilize bond markets during times of panic and no market-buyers. March 2020 at Covid advent was every bit as deadly as Lehman in 2008.

The dot plot has half of the participants expecting one or two hikes in the cost of money next year, and the same half expecting the Fed funds rate to be 1.25%-1.75% on the way to two-plus by 2024 and consensus 2.50% “longer-run,” which would mean mortgages about 5.00%. This is exactly the same path which led a far stronger economy to near-recession in 2019 and the unseemly retreat to 1.50% in the six months prior to Covid -- and Chair Powell’s ridicule at the failed pre-emptive policy which led to the near-miss.

Today we have real inflation, not model-makers’ invention. But today’s inflation is cost-pushed, Covid, not because of excessive demand, and what in hades would benefit from harming the demand we have... beats me. The astounding US borrowing binge may have triggered global inflation, but we’ll see when borrowing returns to merely unsustainable. Beginning with The Trump tax giveaway and then to the present, Treasurys in the market shot from $15 trillion to $23 trillion. The Fed bought, and will keep $3 trillion, and will stop.

Civics, US vs. China. In today’s web-hailstorm of misinformation, China has resumed its status as “Yellow Peril.” Terrible to write and terribly wrong. We are all human, the same but with cultural overlays.

Reconsider Xi and crackdown. His family were badly hurt in the Cultural Revolution. His father had traveled widely in the US. As a low-ranking Party agricultural official, Xi himself lived for two weeks with an Iowa farm family in 1985. His daughter went to Harvard.

China’s economy opened at about the time of that visit, but in an unbalanced way, heavy with unproductive Party businesses, fantastic growth in debt to fund less and less productive growth, and hyper-successful entrepreneurs whose wealth became a political threat to the Party and the social fabric, as well as a debt-threat.

Redirecting an economy of 1.45 billion people is not a tidy process. In China nothing is more fearful than disorder. For thousands of years, frequent disorder resulted in millions of dead children. In a nation not quite five times as populous as ours, fragmented by ethnic groups and languages inconceivable here, internal disagreement is far more broad and deep. Also in a nation with no experience with democracy, whose epochs of glory all came top-down in empire, and which in recent disorder was humiliated by Western powers for 250 years.

China has no reverence for individual liberty, thus today’s surveillance and thought-control are not the hideous onset of “1984” as felt by Westerners. To toss into jail uncooperative entrepreneurs... Wall Street would be a better place today if we adopted the practice. Personally, I’d be happy to furnish a cell for Mr. Zuckerberg while he self-criticizes his enablement for his profit of America’s most destructive crazies.

Here we are, at least one-third of our people in a state of open secession from the nation. That group and the opposite wing in frustration believe that it’s the right and duty of minority or marginal majority parties to force everyone else to agree. The secessionists have outsize minority power because of a temporary quirk: secession is hottest in low-population states, which gives excessive power in the Senate, Supreme Court, and presidential elections. The other side for 50 years has pursued economic and social policies unpalatable even to the center.

China must end the era of massive new and anti-productive debt. Evergrande and others must be allowed to fail, but in the manner of US “bailouts,” in which stock- and bond-holders are wiped out and citizens protected. US financial-media pundits are commonly hostile to housing (WSJ) and decry China’s distortion, 25% of its household wealth in housing. To hell with that -- it’s 16.7% here.

The greatest economic difference between the two nations is the best predictor of what’s ahead. The US greatest strength is creative destruction, our rapid unwinding of losing ideas in favor of new ones. Like most of the world outside the British Commonwealth, China and its Party cannot bear the disturbance of someone else’s enterprise, among the crimes of its entrepreneurs. In the US, One Hour Photo disappeared in an eyeblink. China is at risk for a slowdown -- slowing the outside world as well -- made worse by preservation of Party relics.

The US 10-year T-note in the last year. The last two days’ trading in red, and chart support in green. The two tops 1.60%-1.70% mark very strong support which will be challenged by spring, IF Covid retreats, IF economies stay strong, and IF knee-jerks at the Fed stay jerky:

The 2017 tax cuts have no basis in productivity, just gifts. The Covid fiscal spasm was more likely overdone than not. The Democrats two new binges are a suicidal effort by a thinnest-possible majority party. The Fed buying bonds is NOT the problem.

Fannie-Freddie-Ginnie MBS outstanding, and the Fed’s share. Relax:

The damned dots, each one forecasting the Fed funds rate at the end of each year. Powell dismissed anyone thinking beyond one year. Many in markets wish the Fed would stop this exercise -- its liftoff and et seq rise have done the damage to the 10-year and will continue to, so long as the Fed hawks insist on 2.5% as normal in a deflationary world:

Here’s the chart of the last try at high-normal idiocy. The red line marks the interval we are repeating now, markets acknowledging liftoff ahead. The green line marks the stairstep which pushed 10s and mortgages into the death zone -- for the sake of imaginary “normal.”