As MBS Go “No Bid”, Veteran Mortgage Broker Warns ‘Nobody Is Prepared To Deal With Inflation’

June 10th, 2022

During the last forty-four years, my days have begun and ended with the mortgage market. Four painful moments stand out. Today makes five. (There have been many more good days, but even the Fairy Godmother has her limits.)

Mortgages are covered poorly in financial press, as stocks and such are much more entertaining. Today’s events still unfolding will take days for good coverage. Freddie’s weekly survey will not discover today until next Thursday. But the MBS market is real-time, not like old, sleepy S&L days.

The CPI news this morning was so awful that it changed the bond market’s view of Fed trajectory, and the weakest sector broke. In bond jargon, MBS went “no-bid.” No buyers for MBS. Then a few posted prices beyond borrower demand, not wanting to buy except at penalty prices. Overnight the retail consequence has been a leap from roughly 5.50% to 6.00% for low-fee 30-fixed loans.
The physics of collisions… the second one does the harm. When your car hits a telephone pole, no problem. Then, after a slight lag, trouble comes when you hit the inside of your car. Same thing in football: helmet on helmet is all-okay… until your brain hits the inside of your skull.

The same physics govern housing collisions with mortgages. At the new year mortgages were still three-ish. In February, four. At the end of March, five. May, five-and-a-half. Historically, a two-percentage-point rise from cyclical trough has iced housing, the freeze underway a month ago. Now up by three points, and double January.

The pause in housing between the first collision and second is elongated because of human nature. Someone desperate to buy a house is still desperate, and modestly relieved to buy even at a higher price and rate so long as not forced into an unlimited auction. Now it’s time for Wile E. Coyote in his Acme sneakers, running off into thin air and all okay until he looks down.
Looking down… MBS are such a weird market that other markets have not processed what is happening. Stocks are down 2% today, but would be down a hell of a lot more if considering what a full-stop to housing will mean.

Another marker of MBS distress: the 10-year T-note had held 3.00% since April, the important top in 2012 and 2018. Trading 3.05% yesterday, now 3.20% — retail mortgages jumped triple that amount. The 10s/mortgages spread today is almost 300bps and double the 10s’ yield. Inconceivable. The Fed telltale 2-year T-note had held 2.70% since April, 2.85% yesterday, today 3.05% adding only one more .25% hike to the 2-cast, which is not enough to explain MBS overnight.

Today’s CPI Trigger.

Markets were braced for a bad report, but not this. Overall CPI jumped 1.0% in May. Any thought of deceleration… ka-blooie. CPI 8.6% in the last year, accelerating under pressure from Ukraine energy dislocation.

Many observers this morning say that the CPI news is so lousy that there is no point in looking at the details. Wrong. From the onset of Covid to Ukraine, our inflation problem was supply chain, mostly manufactured goods. Since Ukraine, it has shifted to energy.
Different elements of CPI have different weightings, which conceal the effect of energy in a crisis like this. In May the energy index within CPI… up 34.6% in May alone. In an event like this, the notion of excluding the high-volatility “core” is meaningless. Everything requires energy. The uppers and soles of your Nikes are fossil fuel. Food has its own Ukraine issue, but energy is the problem, from fuel to fertilizer.

Oil was $75/bbl pre-Ukraine, then held just above $100, now $120. Natural gas from normal $4-$5/mbtu… since Ukraine $9. The May increase in fuel oil, $16.9%. May utility natural gas, up 8% in the month. You can see component-by-component, month-by-month CPI here BLS Table A.

Those Other Four Moments…

1. 1979, Saturday of Columbus Day Weekend, Paul Volcker announced that the Fed would allow the cost of money to float as high as necessary. Mortgages 11% on Friday, on Tuesday after the holiday 13%. However! That was 15 years into entrenched inflation, oil ten times as expensive in 1979 as 1972, and our economy just beginning energy conservation and new supply. All incomes ramped right along with inflation. The US economy was a “things” economy, with little overseas competition for union-heavy US labor.

2. 1994, February… the cost of money coming out of recession 1.00%, by year-end 1994 to 5.25% — but in a disinflationary world, the cost of money was one-half the cycle peak four years before. 1994, February to May, mortgages from 7% to 9% — that magic two-point rise flattened housing, and the Fed had to cut in 1995 to dodge recession. The new mortgage peak, stabilizing near 8% was down from 11% in 1990, and we enjoyed a genuine and rare soft landing.

3. 2007, July… you had to be deep in the mortgage racket to understand the first collision. Subprime and Jumbos went no-bid, and stayed there. The Fed was slow to understand the credit panic, began frantic cuts the following winter from 5.25% to 2.00%. But mortgages did not respond, stuck above 6.00%.

4. 2008, July… the no-bid expanded to all mortgages, even government guaranteed. The 10-year T-note anticipating recession and worse fell to 3.50% while retail mortgages rose to 7.00%. That 350bps spread is the closest comparable to today’s 300bps.

Now What.

At Thanksgiving 2008 the credit markets (all markets) were rescued by Ben Bernanke’s genius, announcing quantitative easing — buying enough MBS and Treasurys to unlock markets in which all had been afraid to buy.

Today… is it a coincidence that MBS have blown simultaneously with the Fed’s flip from QE buying to allowing runoff and threatening to sell? The weak break first. MBS are weird, and weird under stress is weak.

The Fed has had a plan, Powell becoming more concise each day: We will raise the cost of money until inflation comes under control. “It is our job to calibrate demand to supply.” A good, tidy, sorta mathematic way to proceed. But destruction of demand has limits, and this morning we hit one.

In today’s US, nobody is prepared to deal with inflation as it has developed in the last 90 days. Inflation can drop and even stabilize above the Fed’s target, but the world is only three months into finding alternate energy for Europe’s oil and gas imports from Russia. Including natural gas, something like 15% of the world’s energy supply has been dislocated.

Perhaps half will quickly be redirected. India and China are buying at a deep discount from Vladimir, which makes available much of the supply which those two used to buy elsewhere, Europe lining up. But Russian production is already suffering, a net and permanent loss. Alternate supplies require alternate delivery, gas especially tough — absent pipelines, all gas deliveries are dependent on scarce LNG ships and terminals. Coal normal, $50-$100/ton… today $395.

In this circumstance, the Fed’s demand destruction has all the wisdom of Xi’s zero-covid. In a rational world, if the party in power in DC were not encumbered by climateers, we would turn on the hose, take every step to unimpede production and delivery. Instead of threatening to tax windfall profits, we would offer incentive price guarantees to protect producers from the energy price drop certain to lie ahead. This is an energy problem, not some amorphous inflation amoeba.

Below the 10-year T-note in the last twenty years. In 2018 there were a few days with trades above 3.20%, so in theory 10s have not broken that critical support. Theories like that tend to last a few days. The Fed has to decide how much destruction it has in mind.

The 2-year T-note had been remarkably stable post-Ukraine, looking for the Fed to proceed quickly from today’s 1.00% to 2.75%. The chart is one year back, and at the moment cautious but unhinged:

Coal… under pressure since mid-2021, quadruopled from normal since Ukraine:

June 3rd, 2022

Now we wait. Stephen Hawking: “Time is what keeps everything from happening at once.” Some things happen faster than others, or suddenly, or despite great anticipation then fizzle.

The wait list: the economy, the Fed, inflation fighting, the Biden watch, China, and Ukraine.

New Economic Data.

In the first week each month we get the first and best reports from the prior month. Cut to the chase: with so much underway you’d think something had resolved and brought change, but nooOOOoo.

May payrolls grew by 390,000, the lowest figure in a year but still not sustainable given the rate of growth in the workforce. So wait a few months to see if it’s a truly overheated market or just the last stage of return to pre-Covid. Herb Stein’s Law: unsustainable trends are not sustained. If truly overheated and a propellant to future inflation, we would see wages ramping and we do not. Average hourly earnings in May grew by 3.8% annualized, down from 5.2% in the last year.

The twin ISM surveys of logistics managers are always the best snapshot of the condition of the overall economy, and in a time as weird as this the ISM site is worth a look at commentary by survey respondents. The manufacturing survey arrived at 56.1% (50 signifies flat) a little better than April, healthy and trendless. However, the price component is still explosive at 82.2%, and the apparently weak employment 49.9% shows trouble in hiring, not in demand. The service sector has been slipping for a year, its lowest read in May at 54.5%, down from 59.1% in April but still healthy; and prices and employment the same as manufacturing, 82.2% and 50.2% respectively.

The Fed.

Leaders are in a tough-talk contest. Bostic (Atlanta prez and a middle-roader) suggested that after half-percent hikes at June and July meetings the Fed might pause in September. Vice-Chair Brainard instantly squashed that, consistent with Chair Powell that the Fed will hammer on until inflation falls to target. There is no meeting in August, but the Fed does use telephones. August is three months away. A lot can happen. Three months ago Vladimir invaded Ukraine.

New governor Waller has had his own battle with prices. He sold his existing home, went shopping in DC, pronounced the market “crazy” and his family rented instead. His term in office is seven years, and we’ll wait to see how that goes. After his housing experience, he favored “several” half-percent hikes. If he does enough damage, he’ll be able to buy. Housing is not crazy — it could not be more rational during a 75-year-record crisis in supply. Hurting the economy enough to drive away buyers except Fed governors does not help, just paralyzes labor mobility.

The Fed intends to push up the overnight cost of money as far as necessary, but longer-term market rates have not moved in a month. Possibly because they jumped so fast beginning last fall in Fed anticipation. Now we’ll wait to see if Fed-fear renews after the June and July hikes.

In particular… the 10-year T-note and mortgages have not moved, holding just below 3.00% and 5.50%, respectively. Especially frozen, or waiting: the 2-year T-note stuck near 2.75%, a thunderous forecast for a Fed top at 2.50%. We’ll know at the end of July. BTW: always ignore the Fed funds futures and swaps markets as Fed forecasts, stick with 2s.

Inflation Fighting.

It is not fair to criticize either the Fed or administration. No US leadership during inflation in the last hundred years has done well. The embarrassing part: not one has been honest. All have presumed honesty is suicidal: “We must slow the economy, which means intentionally reducing sales of everything from homes to socks, driving down the stock market, and causing losses of jobs. And in that order, with lags between each phase which will make excessive damage inevitable.”

This time, inside the Fed and out there is far too much emphasis on excessive consumption heat than damaged supplies. In 2019 the Fed hiked to 2.50%, then in the months before Covid in haste back down to 1.50%. Mortgages had touched 5.00% in late 2018, and while the Fed continued to hike, mortgages collapsed into the 3s. What is so overheated today that was not in 2018-2019? The work-at-home housing panic, topped now, but what else?

This is the one period of inflation in my lifetime which might respond to treatment other than intentional demolition. Extracts from ISM May survey commentary: “Exhausting. Continuous shortages, transportation delays and price increases all contribute to the destruction of historical lead times and firm commitments on delivery. Placing orders earlier and qualifying secondary sources. It is relentless. Consumer and builder demand continues to drive sales domestically. Covid in China continues to affect our supply chain more than the Russia-Ukraine war.”

Biden Watch.

Joe is a good man trying hard but past his prime, which in his prime had been adequate for a senator or veep. He has never been good at finding the heart of the matter in economic policy or in the mind of the nation. He needs help, and to stay off stage except for carefully chosen, prepped and precise moments.

He is too old to run again. For the good of his presidency, party, and nation he needs to make that announcement as soon as possible. One reason is routine: to give our wacky process of nomination time for old and new candidates to appear and be tested.
The second reason is overriding: he needs to mobilize every cabinet officer to public — daily on stage — inflation fighting. Departments of Commerce, HUD, Labor, full list below. We can state the problem: SUPPLY CHAIN. The Democrats are big fans of government and Republicans hate it because it doesn’t work. Several in the cabinet will run for the top job, and no better means or time to audition. This is the perfect, unique time to show your stuff. Every damned day: “We have discovered a new supply issue, and the following remedies.” Then unlike American federal government, accept responsibility for results. Even the things which can’t be fixed, say why. Be visibly determined and inventive.

China.

Over-emphasis is impossible… Xi and Party have this week been humiliated as no other China leadership since Mao. The choice came: open Shanghai or kiss the economy good-bye. The Party rats in their hazmat suits dragging people from homes to quarantine… gone in one day. Zero-covid had to be tried, was tried so in many places two years ago and failed. China’s Party-always-correct rigidity is at the edge of self-destruction.
Now we wait. To see if Covid roars back (odds 100:1 it will), what China will do then, how much economic damage is already done, and to Xi and Party.

Ukraine.

Heavy and smart weapons are on the way. Training Ukraine military in those weapons is underway from Poland to the UK. Port blockade-busting soon. Both sides think time is one their side. We will wait until Vladimir learns that time is not on his side.

The US 10-year T-note in the last five years. Note the collapse of the Fed’s prior tightening campaign in 2018; then the big increase in long-term rates beginning in the fall of 2021, and the stall since April:

The Fed funds rate in the same period as the 10s chart above. Note blockheaded hikes continuing for nine months after 10s (and housing) faded, then rapid cuts:

The 2-year says that despite all the verbal blood-lust at the Fed, it will execute June-July half-percent increases from 1.00%, then add another half-percent in a pair of quarter-point hikes and stop:

Here they are. It would help also if Harris announced no further interest (or talent) in presidential politics. Open the field. See who has talent. Clinton’s Law: “It’s the economy, stupid.” Not the base. Not “progressivism.” Not pointless battles to the death. Who understands what to do, and how to do it?

May 27th, 2022

It is way too early… but maybe not. Several charts follow below, different sectors declaring a conclusion to the 2022 inflation panic and to the Fed’s catch-up hikes.
Our made-you-look, nyanya-nyanya media make it hard to understand anything, but markets can speak for themselves. Markets get carried away, and overreact, but when their patterns are the opposite of the headline flow… trust the charts.
Inflation. Brand-new this morning, the Fed-favorite Personal Consumption Expenditure deflator. Headlines howl the 12-month backlook inflation percentages in sixes and fives, but he important part is the sermon at the Church Of What’s Happenin’ Now. In April, just the last 30 days, overall PCE rose only 0.2%, annualized at the Fed’s target range — but too soon to be trend. The core rate may be sticky at a higher level: April’s core rose 0.3%, the same as February-March.
The core rate is in greater supply danger than the overall. Overall prices have risen so much that they now suppress themselves, inducing supply, substitution, and conservation. The core… oil is holding the post-Ukraine average of $110/bbl, maybe topped, but natural gas is still rising and vulnerable, post-Ukraine leaping from $4/mbtu to $9. When you pay your electric bill, or buy fertilizer, or any plastic, paint… you will make your own personal sacrifice in support of sanctions. And the retail cost of food is still out of control.
Rates. Topped. Just, plain, topped. Sure, suppressed by safety buying, but the investors in $23.2 trillion in US Treasurys generally do not fool around. Long-term yields held support at 3.00%, and the 10-year T-note now 2.74% is pricing for soft news and a deeper drop.
The 2-year T-note says the Fed will conclude its hikes in the cost of money at 2.50% from 1.00% now. A half-point hike is in the cake for June 15, another maybe in July, then a couple of quarters in fall. If natural gas does not do too much damage, a Fed top is better bet every day. BTW: do not watch Fed funds futures. That market is a casino without predictive value.
Mortgages are still near 5.25% and likely to stay this high even if the 10-year T-note yield falls — the Fed unloading MBS will maintain a wide spread between the two markets despite the collapse in demand for loans.
Housing. Although a crazy situation without precedent, housing is in its normal position leading the way into a slower economy. BTW: jobs are the last to break, unemployment the last to recover, years after housing. The craziness is the polar opposite of the ‘00s bubble: credit is tough and expensive, demand is off charts because of the housing shortage in the most economically successful places.
Financial media treat housing like the singular market for any one stock, all shares the same. Housing… the location of each one is unique, and even two identical new structures will not remain so for long. It takes real work to get a feel for the micro-locations driving housing. One of the few people doing good work, Sam Khater at Freddie (although the website is an e-swamp) has identified a shortage of 3.5 million homes, and nailed the location: IT-rich metros. Even he does not quite understand that the shortage is not structures — we don’t have land to put new ones on, close to IT job-factories.
More than half of US counties are losing population, migrating to IT jobs and to something fun to do after work. Conditions “out there” are painful, abandoned homes and storefronts adding to our political separation.
Housing is suffering more now from the unwinding stock market than from rates. Wizards of IT who accumulated down payments in cryptos will not soon be buyers. If inflation has truly crested and with it the Fed threat, stocks can stabilize. Crypto charts still look like barrels going over Niagara. This week, Ben Bernanke: “Gold has underlying use value. You can use it to fill cavities. The underlying use value of a Bitcoin is to do ransomware.”
It would take a significant Fed error and unemployment to push home prices into reverse. Inventory is already accumulating, but the deep shortage is likely to hold prices.
Soapbox Time. My ol’ Daddy used to say, “Most human unhappiness comes from disagreement about priorities.” We are in a moment of multi-generational importance — which if nothing else we can use as a balance or relief from inflation, expensive houses, election, mutually hostile bases, firearms, Roe, climate, and ghoulish fascination with grieving families.
Russia and China each are on the edge of civil unrest for the first time in 35 years. Big geopolitical change is unusual, especially in the era of Pax Atomica and great powers careful with each other. The pending disorder in each place has cultural roots, not just political, and when tangled in cultural underwear a lot harder to stabilize than merely changing government. The second linkage between the two: economic globalization exposes cultural weakness and forces change — on all of us, but modern economies especially punish rigidity.
Russia… a dangerous shadow of prior empire, stuck in a dysfunctional culture 500 years old. In Monday’s NYT, “Putin Rules Russia Like An Asylum,” the same as the rule of his predecessors. This great if dark column poses the question: even post-Putin, does Russia have the ability to heal itself, to become an open and law-based society, if not a democracy? Sanctions call the question: since the fall of the Soviets, Russia has become economically dependent on the outside world as never before. It is no longer possible to retreat to Soviet scarcity and hermitage. What follows in this failed culture?
China… possibly the dominant global power in centuries ahead, the stage is set now for another Tiananmen, but worse. The men who ordered Tiananmen were in favor of economic opening (not revolution), which inevitably required other openings. Modern economies cannot thrive in closed, top-down cultures. The rise of Xi marked Party ascendance over openness and entrepreneurs.
Xi is a dud. He has mystical fondness for old China, enjoys pure-power Maoism, and has assumed his ascent as Chairman-For-Life at this fall’s Party Congress. Surrounded by geese laying golden eggs, only the Party may decide if, when, how, and how many. Xi fell to silence after the Ukraine invasion, friendship with Russia “without limits” a staggering humiliation; and simultaneous with the lockdown of Shanghai and China in recession. Xi’s string of abysmal decisions has suddenly empowered the successors of Deng Xiaoping.
Suddenly seeming more in charge than Xi is China’s #2, Li Keqiang. Both WaPo and WSJ have the same accounts: last week Li conducted a teleconference with 100,000 local officials, hosted by the Beijing cabinet: “We are having this meeting because there is no time to lose.” China faces “grim challenges” and maintaining growth is more important than anything.
Then, unthinkable, Li met in person for an hour and a half with a group of senior representatives of American, European and Asian multinationals operating in China, and while not specifically mentioning Xi’s zero-Covid said China is “committed to striking a balance. We can’t have companies stopping their operations.” Then, “I hear your message about vaccines, and we will expand vaccination coverage.”

China and Russia are way behind. No person would steal a boat to emigrate to either place, except a North Korean. Reordering for the first time since 1989 will go better if we can pay attention longer than usual, which is essential to our allies.

The 10-year T-note in the last 20 years. So far, so good, 3.00% tops. The longer we stay topped, the better the chance for a steep drop like the last ones:

The 2-year says the Fed will be done soon, very quickly to 2-something, then stop:

The Dow… stocks could be a lot worse, and will be if the Fed overshoots:

Supply adjustments away from Russia can make oil worse, but into 2023 will lead to increased global supply — Russia oil going to creeps, the new supply from more honorable sources.

Unusual, but natural gas is the problem. LNG is a bottleneck (ships and terminals), and no other way to move the stuff from wellhead to demand except pipelines:

The alarm-mongers are pushing food insecurity. Not markets: Ukraine brought one-time price pops. We live in an era when the operators of planter/harvest combines have interactive screens of ag markets in the cabs, and know very well how to adjust and to trade. In the next snip following, note the same pattern in corn — not a Ukraine or Russia product, substitution at work:

May 20th, 2022

The recession-watch: watching the Fed watch us. We will be punished until we behave. Supplies limited, the Fed must remove our ability to compete for things in short supply.

Rates and Markets.

The Fed has the attention of markets, the prospect of steep and open-ended rate hikes driving everything. In the only two significant market-movements this week — stocks down, dollar up — both were pushed by tougher Fed talk. As ugly as stocks are, perhaps more important is the list of stuff not moving: the 10-year T-note (safely below the crucial 3.00%), mortgages (still 5.50%-ish), the 2-year T-note (still priced for 2.75% cost of money at year-end), oil (slippery but $112), nat gas (holding $8/mbtu), and gold ($1839, stuck).

Powell Interview.

This week Chair Powell was interviewed by the WSJ’s Nick Timiraos, and the transcript is worth your time. We have to guess at the links from his words to markets, but we do not have to guess at his words.

Powell’s content and style were different from his May 4th post-meeting presser, this time on the harsh side of direct, and in several places his inflation concerns were the opposite of transient. “The main thing is to get inflation down.” He still offers optimism — “…There are a number of plausible paths to having a softish landing” — but his emphasis was persistent trouble. Markets — hell, everybody — have hoped that inflation would retreat under Fed pressure and supply-chain self-repair, and the Fed would back away from tight to neutral at worst. Persistent inflation would mean a persistently tight Fed, the cost of money above long-term rates, and perhaps a lot higher — the Mother of all Inversions.

“There could be some pain involved in restoring price stability.

“China… what they are going is preventing any healing of supply chain problems.

“There is a risk that we will have a persistent imbalance between supply and demand in the [labor] market… that points to a higher natural rate of unemployment… probably well above 3.6%.

“There is a real possibility that globalization will go in reverse to some extent… supply chain, more stability perhaps, but it might not be quite as efficient as the amazing global supply chains.”

Baby Formula.

The Right knows that the shortage has been caused by meddlesome DC bureaucrats, and the Left is sure that fault lies with soulless, profiteering corporations.

Yep. That’s us: the Disunited Bases of America. E Pluribus Dementiarum. Since roughly 1990 (the end of the Cold War, advent of IT) we have enjoyed ultra-efficient chains of supply. “Just in time” delivery, no reserve stocks; no standby supplier; indifferent to the political stability of supplier nations; and what-me-worry potential for disruption. Hence delicate chains. Get away with them for long enough and forget the physics of momentum.

Hold the kid’s bottle for a minute and think through to good news. Adding security to any chain of supply is a one-time increase in cost. Bad inflation ramps upward continuously, and really bad inflation spirals with wages (Powell’s labor comments sound like closing the lid on a casket). Inflation momentum is the Great Satan. Instead, one-time: carry a little more inventory. Maintain a little idle capacity. Avoid cheap suppliers in crazy places (Russia, China). Don’t drive each other crazy by shaving nickels and demanding ever-quicker response. A common device in the money world: pay an annual fee for a standby line of credit — not a bigger fee one each year, the same one, a one-time increase in cost and price. Supply chains will repair, much efficiency is undamaged, and some is still improving. Amazon delivers my stuff before I order it.

Elon….

Overconfidence strikes geniuses, not just chains of supply. Elon is under contract to buy Twitter for $54.20/share. The stock price today is $36.91. Those who have participated in exuberant auctions to buy a house will find Elon’s predicament familiar: paying over asking price, waiving his right to due diligence inspection, and his contract is for specific performance. Twitter can force him to proceed, not just settle for his $1 billion earnest money.

Speaking of Housing….

We are the momentum poster-child. Housing is in the worst supply shortage in living memory. The signature buyer is a metro-area IT household desperate for more room now that Covid has altered IT work forever. Not going back to the office. Management can announce whatever it wants, but… NOT. Two years of this, and the highest-achieving, best-paid, most job-secure households have momentum. Higher rates will stop them? Nah. Overqualified. They will not stop the house rush until it looks silly: more houses than buyers, and that shift will require Powell’s pain.

Alphabet Pain.

One stabbing sensation which may slow the IT mob: RWE. Reverse Wealth Effect. Affluent households are aggressive because they are affluent. Even if not using the money, it makes them brave to know that they have it. RWE: stocks down 20% (so far) will diminish ardor. IT clients who liquidated cryptos to win the house auction should be pleased, although all whom I’ve known resisted and felt sad. Those who held on, who believed that Stablecoin was stable, that USD and UST in the crypto name meant the same as dollars and Treasurys… RWE.

Then, just now underway, QT. You’ll recall Quantitative Easing… now Quantitative Tightening, the Fed soon to mop QE at $95 billion monthly.

Weak Theory.

Especially popular: belief that the $3.5 trillion leap in bank deposits in 2020, whether excessive stimulus or Covid non-consumption will be spent, increasing monetary velocity and sustaining inflation. Only one problem: if being spent, then deposits would fall, but they are not. Not yet (chart below). Both deposits and total bank credit have flattened in May, probably yer Fed at werk.

Russia.

Mr. Churchill described Russia as “A riddle, wrapped in a mystery, inside an enigma.” This week a window cracked open. Maybe. Retired Colonel Mikhail Khodaryonok on state television, its most-popular 60 Minutes: “The situation for us can only get worse. We are in total geopolitical isolation and the whole world is against us, even if we don’t want to admit it… our resources, military-political and military-technical, are limited.”

NYT here, and Slate. In January the Colonel had said invasion would fail, for the reasons it has, then was forced to retract. Retired officers are often a source of authority in places like Russia. And, censorship and propaganda notwithstanding, several hundred thousand Ivans in the military are now telling Mama that the patriotic crap on TV is just that.

Since and including the odd May 9 parade, the most surprising development has been Putin’s passivity. No double-down, no threats, no reaction to expanded NATO, just nibbling at Donbas villages. The initiative is passing to Ukraine. Next up: break the blockade of ports. Good sources say we are working to supply just enough Harpoons to encourage the Russian 20-ship Black Sea fleet to find a remote harbor and stay in it.

The 10-year in the last year. It’s way early, but this is a chart of topping. 10s stopped dead at the 2013 and 2018 tops, and now forming a “head and shoulders.” 2.78% today… break 2.70% and every chart trader and algorithm will buy. Odds are immense that the Fed will over-do the war on inflation. Because it must:

The 2-year in the last year, by far the best Fed-predictor. Traders are alert to every hawkish word from the Chair, but 2s stopped moving up in early April:

Deposits since 2018 in the top chart, total bank credit below. Cause and effect are not easy to figure, but both have flattened in the same timespan as the 2-year flattening.

May 13th, 2022

Friday The Thirteenth. Most of these pass without note, and I do not suffer from triskaidekaphobia, but am afflicted by Okie amusement at misfortune. Dust Bowl, Depression, tornadoes, oil busts… may as well laugh.

The world-historical-financial moment on this Thirteenth could not be more appropriate, so many people today wondering where they went wrong. This streak of ill-fortune is spoiled only by good news at the Fed. Begin there.

The Fed, Huzzah!

Chair Powell’s first term expired at the end of January, and he has served as Chair pro tem while several other people have auditioned for the job. James Bullard (St. Louis Fed), William Dudley (retired NY Fed), and Lawrence Summers (fired by Harvard but sooooo important) are all certain of Powell’s incompetence and their own genius, and have hoped that a fractious Senate would pick them. The 13th has fixed ‘em. The Senate voted 80-19 to confirm Powell for another term. These days nothing gets that kind of bipartisan landslide except a vote to adjourn.

Also confirmed: two new Fed Governors (both Black, both of Left-side economic work but very capable, and good that neither belonged to the banker club). A third Governor will be confirmed in a couple of weeks, making a full roster of seven including the Chair. Powell has operated shorthanded. Governors in the modern era tend not to dissent from the Chair even if they would like to, and with three empty seats, too much weight to the dozen presidents of the regional Feds and their low-talent boards of directors. BTW: last year’s newbie Governor Christopher Waller is a pleasant surprise — having escaped Bullard’s St. Louis Fed, he turns out to be wise, and skilled in housing.

And this week came two tremendous improvements in the regional roster. Two good presidents had been canned for personal trading, and sadly had been among the most talented. The Dallas Fed replacement is ideal. Lorie Logan has been the NYFed manager of the Fed’s trading and portfolio during an… exciting period, parts of her story in Timiraos’ “Trillion Dollar Triage.” She is a do-er, neither and economist nor banker, and even better not a Texan (I should know, half my forebears were displaced Texans, and none but them should miss prior prez Richard Fisher). In the other win, Susan Collins (not the Senator) will lead Boston — Collins is possessed of one of the most-broad and accomplished resumes ever to serve. Another person of Jamaican heritage to make it near the top: Colin Powell.

Data, Rates, Inflation, and Markets…

With one exception below, none has suffered a 13th fate. The 10-year T-note has held just under 3.00% for a month, a good sign despite the Chair’s notice of two more half-point hikes before the end of July (the cost of money then would be 2.00%, “prime” to 5.00%). Mortgages have held mid-fives, the spread to 10s narrowing in a sign of orderly trading — and during this week of $103 billion in new long-term Treasury bond auctions.

The new CPI numbers… in media the now-obligatory eyeball-grabbing 8.3%!!! That’s the twelve-month back-look, but overall CPI in April rose only 0.3%, 3.6% annualized. The core rate in April jumped at twice the pace of March, 0.6% — for the first in a long time because of food, not energy. Energy costs add to food: fuel, fertilizer, and transport, but mostly Ukraine and supply chains.

Oil has been range-bound for three months, now $110/bbl and holding. Natural gas same, US prices just below $8/mbtu, still more than double a normal price. Gold bugs take note: Gold has held $1700-$2000 since Covid was young, today $1806/oz. Possibly pushed down by Russian sales, but zero response to inflation. The bugs think the Fed should calibrate to gold, and on that theory should not be raising rates at all.

In the biggest inflation surprise, ex-im prices are behaving. In the last year import prices rose 12%, but in April, zero (the super-dollar helpful). Export prices soared by 18% in the last year, but in April down to 7.2% annualized.

Winners of the Triskaideka Schadenfreude Prize

If nothing of our own to celebrate, take pleasure in the misfortune of others, especially those who deserve it. At the top of course, Putin and Xi, although incompetence intrudes on bad luck. Xi, sir… Covid will be with us forever, or until a sci-fi anti-viral med, so you’re going to stay locked down forever? Channeling the Ming, 14th Century retreat from the world? Your Covid strategy has made your chubby hermit neighbor another winner this week.

Elon Musk. The market for Twitter stock has fallen out from under your privatize price, so much so that the $1 billion el-foldo fee is cheap. If you proceed and destroy Twitter, we’d name dozens of high schools after you.

The Grand Prize…

Crypto.

All media have the catastrophe charts and stories, but the principles and law involved get lost in the entertainment and IT eyewash.

US Constitution, Article I, Section 8, Clause 5: “The Congress shall have Power… To coin Money, regulate the Value thereof.” Everybody else is a counterfeiter. Congress since the beginning has delegated currency issuance and enforcement to the Treasury, and modern management to the Fed. All done this way because phony currencies have been dangerous and destabilizing throughout history.

Humankind has several genetic disorders, and one of the more widespread is belief in salespersons offering can’t miss free lunch. Thus we have regulators. If you’re not a currency, then you’re an investment. The Securities Acts of 1933 and 1934 control fractional sales of investments. Foolish and criminal inventiveness has spawned more and more regulators of banking (Fed, FDIC, FSLIC, Comptroller…), but for all of that, the 2002-2008 subprime loophole… no regulator was charged specifically with regulating credit.

The crypto regulatory loophole is similar, but this time widened by indolence. Even armed with Dodd-Frank’s broad authority, no regulator would do the right thing: smother crypto in its crib. Everyone hoped it would crash quickly into oblivion, but it became too big to shut down. Exposed now, now would be a good time to make cryptos obey all the rules against flim-flam.

A currency as a means of settlement must have par value all the time. If a merchant sends an invoice in dollars, no matter how damaged by inflation or deflation, a dollar is a dollar. Yesterday an otherwise fine reporter (Telis Demos, WSJ), addled by IT fondness got our currency and cryptos confused with other currencies. Dollars constantly change in relative value to euros, yuan, pesos, and yen, but a dollar must be a dollar. 100 cents, not 89 in the morning and 107 in the afternoon.

Cryptos are classic organized financial crime, “classic” because its boosters and priests claim attributes — value — which are internally contradictory. In the last 150 years most currencies have retained par value because of central banks. Cryptos have no such support. Nor do they have any collateral value or income.

They are unique, in their scandalous energy-hogging manufacture. Uniqueness can create value to a collector, and in that sense an investment (Warhol’s silly-painted Marilyn just sold for $195 million), but uniqueness is the enemy of liquidity. Fungibility at par requires all-same.

Blockchain may be useful for clearing someday, although anonymity is primarily a benefit for crooks and crackpots, and has nothing to do with the value of an individual token. A super-technology pal, nameless here for his own protection wrote to me today, “Keeping the dream alive are the rosy-eyed technologists who maintain that there is a pony there, if we can find it.”

The 3.00% tops in 2013 and 2018 are slender reeds of support, given the track of the Fed today, but more solid the longer 10s can hold here:

Here is the link to the BLS inflation data, and monthly and annualized chart by components of inflation going back to last fall. Note extreme volatility caused by supply shocks, and the added jolt of Ukraine in March — not at all the steadily accelerating ramp, 1965-1982:

May 6th, 2022

The Fed and inflation. That’s all, folks.

New Data.

The twin surveys of purchasing and logistics managers by the ISM for April show little change. The manufacturing sector was forecast to rise from 57.1 and instead slid to the lowest since mid-2020, still a strong 55.4 overall. Two sub-indices are more descriptive: employment crashed to 50.9 from 56.3 last month — not weak, too few people to hire — and the prices index stayed close to the all-time highs at 84.6. The service-sector survey, same thing: a solid and steady overall 57.1%, employment from 54.0 to 49.5.
April payrolls recovered another 428,000 jobs, now close to the pre-Covid total. It is impossible to tell what fraction returned from premature Covid retirement, or from new demand in a too-hot economy. The all-important clue is wages — are employers paying up across the economy to attract workers?
No. Paying down. In the last year average hourly earnings rose 5.5%. In the last three months by 3.2%, annualized. One-half the gain in overall CPI. If there is a spiral here, it is wages unspooling under pressure from unaffordable prices, a thought beaten to death below.

Rates.

The Fed’s meeting concluded Wednesday, and markets enjoyed a few hours of imaginary relief. The good news: Powell said “no” to .75%-per-meeting hikes, will unload its QE holdings in June at half the expected pace. By evening, given a little thought and some gin, markets noticed that Powell nodded to .50% hikes at the next two meetings, and reverse-QE would proceed at full bore in September.
Beginning then the Fed will dump $60 billion in Treasurys each month and another $35 billion in MBS, and “stop when reserve balances are somewhat above the level it judges to be consistent with ample reserves.” So says the Fed statement in considerable bull byproduct. The Fed will stop when something big breaks. Then markets will begin to wager on how soon the Fed will buy again.
The 10-year T-note was 2.73% on April 26, and this week blew through chart support at 3.00% to 3.13%. Chart below. Looking way back, in October 2018 a slender reed at 3.19%, then no support at all looking back to 3.75% in 2011. Retail 30-fixed no-point mortgages are an inch from 6.00%, and the spread to 10s is a clear sign of MBS trouble in the face of QE dumping. The Fed-sensitive 2-year T-note is trailing at 2.75%, the pause reflecting concern for the damage done by catch-up hikes, and the odds of a Fed overshoot.

Inflation-Fighting COMMUNICATION.

Has never been worse. Poor Ol’ Joe is too old to fly top cover for the Fed and nation. The White House is empty of useful domestic people, still dreaming of Build Back Better when fiscal stimulus is the last thing we need. Yellen did a fine job as Fed chair, but has been weak at Treasury. It’s a lot to ask of Powell, but you… are… it.

As honest and fearless as Powell is, and has become a fine communicator, his post-meeting press conference this week was awful. Explaining to the nation aside, our words often reveal our thinking, and he was oh-for-everything.
The full transcript of the presser is here. A dozen single-spaced pages and worth your time. Powell opened: “It is essential that we bring inflation down if we are to have a
sustained period of strong labor market conditions that benefit all.” Then twice in the same half-page, “The labor market is extremely tight.” When inspired Nick Timiraos tried to hand a useful thought to Powell (“… the feasibility of slowing hiring without pushing the economy into recession?”), he fumbled, off into “Beveridge curve” econo-babble about job vacancies.
“There’s a path by which we would be able to have demand moderate in the labor market, and therefore have vacancies come down without unemployment going up.”

Horsefeathers. Tell the people: to get inflation back in the box, the Fed has to slow the economy. This process like so many in life will involve short-term pain for long-term gain. There is no painless remedy for inflation, and a slowing economy brings unequal discomfort, including losses of jobs.

State The Problem, Then Revise Policy.

Powell is under assault for allowing inflation to get out of the box. People who should offer support and explanation to the nation instead wield the long knives of ego — Summers and Dudley, and inside the Fed, Bullard and Mester.
Powell sounds panicky while trying to explain. He is giving far too much weight to old Phillips-isms, that a tight labor market is the root of all evil. That is not the problem today. We are in the worst supply-shock of all time, tough before Ukraine and now far worse, China late to the Covid party. At mid-presser, Powell: “Our tools don’t really work on supply shocks.” With all respect… then consider doing something else?

Britain and the Bank of England are different. Dissent is routine. Also routine thinking out of the box. Inflation in Britain is now 10%, half-again ours and more vulnerable to energy disruptions. The BOE this week raised its cost of money by only .25% to the same 1.00% as our Fed. The vote in the Monetary Policy Committee was 6-3 — three wanted a bigger hike. Andrew Bailey, Governor of the BOE: “We’re seeing this unprecedentedly large shock to real income in this country coming from abroad, it’s a terms of trade shock. … And that is having a negative effect on real income, we think that’s going to feed through to activity during the course of this year in a big way.”

Many in Europe feel the same way: this supply-shock inflation, prices running up far faster than wages has an excellent chance to moderate inflation under the weight of prices themselves. Adding the weight of interest rates risks worse trouble. Faltering demand shows in oil prices holding close to $100, which could double briefly under embargoes. Overall demand in the US will surely be suppressed by natural gas, now more than doubled at $8/mbtu, going higher and doing the same to electricity.

Jobs?

The chair’s focus on jobs may turn out to be right, but two elements of study are missing. First, markets react to job data today exactly as in the Volcker era. But jobs are not the same! This is an IT world. If you don’t work with your hands, you work in front of a screen. Fed policy thinking has not adapted (nor has social policy). In an IT world the likelihood of skills mismatch is enormous and without precedent. How many vacancies are caused by inadequate IT skills in a thriving, super-productive, and revolutionary economy? How much real inflation pressure, if any has come from one-time outsize wage gains in retail and hospitality?
Second, how much of our labor shortage is due to cramped immigration? Especially the supply for tough, hands-on, entry-level work? During the last forty years of heavy immigration, Anglo youth has lost interest.

The 10-year US T-note in the last 20 years, the last two days added in red, and support noted.

The 2-year has priced 2.75% for year-end. The flattening indicates suspicion that the Fed will get more slowdown than it thinks:

April 29th, 2022

Below are fresh data, rates and markets, the Fed’s lions tigers and bears, a word on infrastructure, Covid, and then… then the stuff we don’t want to talk about.

New Data.

The big reports for April come next week, but some glimmers this week.

Misrepresented by headlines in all media: first quarter GDP fell by 1.4% in the first estimate, reported with various degrees of shrieking “Recession!” When you’ve sold your soul to attract attention, it makes it hard for the mob to know when to panic, although if it does go badly today’s mobs have pre-decided whom to blame.

Through March the economy was still just fine, even hot. The decline in GDP came from oddities: inventory bloat in Q4 2021 shrank in Q1, supply chains lurching. Exports fell and imports rose, also a subtraction. The only authentic downward force was the decline in government spending.

The real economy in any quarter is Personal Consumption Expenditure (PCE), in Q1 an annualized 2.7% gain. Personal income is growing at only half the rate of spending, propped by borrowing and assets, but that’s a routine differential in an economy with forward momentum.

The companion PCE inflation measure is the Fed’s favorite, and headlines again lied. It’s silly now to report inflation in the year past; the important thing is the trend going forward. The screech: “6.8% Inflation!” But in March the actual core rate was only 0.3%, half the rate of last year. Wages are rising, but not a self-reinforcing spiral: the broad Employment Cost Index which includes benefits, in the year ending March rose 4.5% — not accelerating, and in normal times should be higher than inflation (thus “real earnings”).

Rates and Markets.

With one exception, markets have been stable for two weeks. Mortgages just north of 5.00%, the 10-year T-note holding below 3.00%, and the Fed-predictive 2-year stuck at 2.75%, the likely year-end level.
Oil is sticking close to $100/bbl, natural gas to $7/mbtu. Europe, Russia, and China are slowing fast, all probably negative GDP, which reduces energy demand, and coal returning. Various embargoes and shutoffs and dislocations can explode the price of either oil or gas.

The US stock market is vulnerable, Lord knows. If a man falling rapidly down stairs and hoisted back up is stable, then so is the Dow back-forth in a staircase 35,300 to 32,600.

The signature not-stable market is China stocks, despite the central bank willing to buy in support, and selling “discouraged” by Party goons. The Shanghai composite from 2020 to last month repeatedly traded over 3700 and this week cratered to 2886. It has recovered a little on Xi’s new call for all-out spending on infrastructure, and his disorderly retreat yesterday from oppression of entrepreneurs. China’s official GDP figures are absurd — no way to shut down one-third of the place and stay positive, as evidenced by the crashing value of the yuan.

The Fed, Oh My!

The Fed meeting next week will conclude on Wednesday. The stabilities in markets in the last weeks have reflected the wait for this meeting. The Fed will take the cost of money from 0.50% to 1.00%, probably signal another 0.50% coming on June 15, then maybe a slower pace but data-dependent. The Fed will for sure announce the extent and means of winding down its $9 trillion holdings of Treasurys and MBS; markets are partially prepared, but the actual decisions will surprise.

Infrastructure.

A new lesson on this means of stimulus or job creation has arrived in Pulitzer-quality work at the Denver Post. Its new multi-part story, The Big Payout establishes $65.8 billion in Covid aid hosed into Colorado alone, $10,970 per person, average among the states. The county receiving the most: Pitkin, which is Aspen, double the average. Bound to have been a desperate need, there. Ask most any Colorado citizen where they saw big benefit from the money, and get a blank look. Ask any family of four if they would rather have had a check for $43,880.

Infrastructure decisions should always be made at local levels and with as much local funding as possible, where cost and benefit are linked.

Covid.

Two years into Covid, and China’s zero policy is in bad trouble. In the West we did the hard work, we tried everything despite resisters, and more or less did protect the hospital system. And now we are done. Not all of us, but most of us have crossed into… enough, already. Get on with life. Our passage to endemic status may be the only way, and China’s tough years lie ahead.

A US minority still prefers to live in fear, some justified, and the CDC chief will stay in her bunker until removed. But the data tells the tale. This week: the percentage varies by age group, but roughly two-thirds of Americans have had Covid, and a similar overlapping figure have been vaccinated. We don’t know how long immunity will last, but we’ll learn why so many people don’t become infected, or without symptoms, or mildly ill, and so few become terribly ill.

Only Among Friends… It’s not news that after a long period of stability a big change comes as a shock. We evolved to get the bear out of the cave, not to admire its ancestry.

The last negative global shock (non-financial/economic) was 9/11, intense but brief. It led to US entanglement in stupid mini-wars, but our problem and not the world’s. Ten years before, the 1991 Gulf War was fought by a one-time-only UN coalition, short and done. Run the tape farther back, and find deadly crises but momentary (Cuba ’62, Berlin ’61 and ’48), and big but localized and peripheral wars (Vietnam ‘65-’73, Korea ’50-’52).
The last time the world faced peril comparable to today was the 1930s. Most people then saw progression to disaster in real time, the helpless inevitability of slow-motion automobiles on ice.

The Ukraine war is widening. This week saw several strikes into Russia, including a defense research facility outside of Moscow. Russia will reciprocate. The West is committed to winning, Sweden and Finland joining NATO next month. Impossible to confirm, but sources have Russia asking for missile supplies from North Korea in exchange for the design of ICBM warhead re-entry vehicles. China is in deepening internal disarray, both economic and foreign policy, clinging to lose-lose alliance with Russia, the Party incompetent. The previously passive or nearly so are now engaging: Japan, South Korea, and all of Europe except Hungary.

The most recent credible word from Russia: as energy revenue dwindles and sanctions tighten, sometime this summer it will run out of reserves to prop its economy. By then despite thought-control, understanding of losses and lies will have spread. Vladimir gets to die in bed only if he wins in Ukraine, and he can’t.

The US faces an election. The president is elderly beyond functioning, decisions or public leadership, and the Veep is… so sad. On the Right secessionists have bits in their teeth (silly Abbott, dangerous DeSantis), and Progressives can’t progress beyond dreams of the 1960s.

There is not a hell of a lot that citizens can do, except maybe one thing. Put down other priorities, and pay attention to Ukraine. Pull together, and resist those who would pull us apart.

The US 10-year T-note in the last year. Small solace, I know, but two weeks of peace has been nice:

Dear Emperor Xi: your yuan chart indicates devils at home and foreign are not following orders. (BTW: up is down, more yuan required to buy a buck.)

The Denver Post… Colorado alone, $65.8 billion, $10,970 per person, county by county…

by Louis S Barnes