Plenty Of Upside HSH MARKET COMMENTARY
May 15, 2020 — Given the calamitous and unprecedented decline in economic activity and the still-spreading misery that the coronavirus pandemic has brought, it’s easy and even expected to be pessimistic about the situation. Certainly, that’s the case, and while few people will agree that a glass is half-full or half-empty, one thing we should be able to agree upon is that given our current station, there remains plenty of economic upside.
What’s not yet clear is if we are currently seeing the worst of the downside. To be sure, the available economic data are backward-looking by their nature, and reflect only what was, not what is or what may come. March’s data was bad; April’s far worse, but with some places re-opening some components of some local economies, May’s at least holds the promise of improvement.
The Federal Reserve has opened a wide-ranging bag of supports, slashed rates to the bone and pledged whatever additional or expanded supports it can conjure up as they might be needed or appropriate. Although some gamblers in federal funds futures markets have placed bets that the Fed will ultimately need to follow the lead of other central banks and move policy rates to below zero, that remains an unlikely scenario. At an economic discussion this week, Fed Chair Powell noted that “The [FOMC] committee’s view on negative rates really has not changed. This is not something we’re looking at.” He also went on to note that this wasn’t solely his view, but rather that the unanimous view among all members is that negative rates are not an attractive policy option. As was the case the last time short-term rates were near the “zero bound”, the Fed would instead use forward guidance about the likely path for future monetary policy and rely on asset purchases to help keep markets liquid and rates low.
The central bank head did have a rather cautious statement regarding the outlook for the economy, too. “The path ahead is both highly uncertain and subject to significant downside risks,” he said, and while recovery will come at some point, “the recovery may take some time to gather momentum, and the passage of time can turn liquidity problems into solvency problems. Additional fiscal support could be costly, but worth it if it helps avoid long-term economic damage and leaves us with a stronger recovery.” Such a strident appeal for additional fiscal response from the Congress is both unusual and underscores the dire nature of the current situation.
For their part, the government has already kicked trillions of dollars in new spending and support to try to offset the economic carnage. Whether those dollars are applied properly or efficiently is always a matter of discussion, as is whether or not they will distort the path to recovery, as things like the expanded and increased unemployment benefits may deter some from returning to work even as jobs again become available. Still, the Congress did act with unprecedented speed, and discussions for up to another $3 trillion in spending are happening now, but have been subject to less unanimity and more partisan politics than the last few rounds of spending have. As such, it’s not easy to tell what (if any) new stimulus will come, or when, or where.
The fact remains, though, that additional measures will likely be required even if the data does start to show signs of improvement. The hole the economy will be climbing out is so deep that we might see double-digit percentage gains in some metrics for an extended period and still not return to where we were as recently as February. Employment comes immediately to mind; this week, another 2.981 million unfortunate souls filed for unemployment benefits for the first time, bringing the 8-week total since pandemic-led shutdowns began to a staggering 36.5 million. Even though initial claims have been trending downward from the unprecedented 6.867 million in the end of March, the current level is still many multiples higher than all records that existed prior to February. Aside from the sheer number of folks who have applied — and the now 22.37 million who have been receiving ongoing support (a number that does not include this week’s new entrants), what’s sobering about this is that we are now at a point where the economy would need to create 1 million jobs each month for the next three years just to get us back to employment levels of just a few months ago. That said, many of these jobs did not truly disappear; a considerable amount of folks will likely eventually be re-employed when things begin to open up more fully… but how many and how fast is very unclear. Bars, restaurants and stores allowed to operate at even 50% of capacity may or may not see consumers rush back in, and even then, employers are likely to keep staffing levels lean for a fair while until it’s clear that demand is again durable. That is no sure thing at this point.
Even with funds flowing from the government in a variety of ways, those dollars may not be able to be deployed in the most economically supportive manner. Consider retail sales for April, which sported a 16.4% monthly decline, a figure almost double the previous monthly record — which was -8.3% in March. With shops, stores and places to go largely closed, spending cratered, with only on segment of retail sales showing an increase; nonstore retailers (internet sales) posted an 8.4% spike for the month. March’s then-record decline at least showed spending surges for food and beverages and sales at general merchandisers in addition to internet, but that “stock up to shelter at home” spike has now faded. As we already know, personal savings rates bounced higher in March (latest data) as folks found it hard to spend money anywhere beyond basics, and with some households banking stimulus funds they received. Finding ways to spread those dollars around is a matter of urgency for both the economy and to help get the millions of closed businesses up and running again.
Industrial production also wasn’t happening much in April. After a 4.5% decline in output in March, an additional 11.2% decline was recorded for April. Manufacturing led the way down, sporting a 13.7% decline, but mining output was also hurt by low oil price and more and contracted by 6.1% for the month, a third consecutive monthly decline, while utility output fared the best of the bunch with just a 0.9% fall for the month. With nothing to do, the percentage of industrial production floors in active use fell to 64.9%, the lowest recorded value in a series which dates to 1967. Even the “Great Recession” saw greater usage at its worst point.
But perhaps the picture is worsening less for manufacturing now that we’re moving further into May. One such reference suggest as much. The Empire State Manufacturing Index from the Federal Reserve Bank of New York staged a rebound of sorts this month, rising from a value of -78.2 to -48.5, which is an improvement, if still the lowest reading ever if April is excluded. Measures of new orders rose a little from the depths, adding 23.9 points to make it to -42.4, while employment nearly stopped bleeding with a 49.2-point leap back up to just -6.1 for the month. This is by no means even an encouraging report; still, “less bad” is about the best we can hope for at the moment;
Given current trends, it is unlikely that the Fed will not need to worry about inflation for a good long while. Prices of goods coming into the United States posted a 2.6% decline in April, adding to a 2.4% decline in March, and placing costs of imports 6.8% below a year-ago level. That said, we’re not likely to be exporting any inflation anytime soon, either; the aggregate value of exports slumped by 3.3% in April, have now been falling for three months in a row, and are some 7% below last year at this time. Price declines are also being tallied at levels both upstream of and at the consumer level, too; the Producer Price Index for April declined by 1.3%, a decline far greater than was expected, and is declining now at a one percent annual rate. Excluding the most unpredictable inputs (such as energy costs) left a lesser fall of just 0.4%, and core PPI for the last year is just barely positive at 0.1 percent.
Consumer goods costs are on the wane, too. The Consumer Price Index dropped by 0.8% for April after March’s 0.7% plummet. It was the biggest decline in about 12 years. However, as shoppers would know, the balance was uneven; energy costs dropped by 10.1% for the month, while food costs leapt by 1.5%. The “core” CPI which omits these components still managed to fall by 0.4% for the month. Headline CPI is rising now at just a 0.4% clip; in January, that was a warm 2.5% pace. Core CPI is still warm-ish, but at an annual 1.4% rate (and diminishing) it’s a full percentage point less than just two months ago. These figures are also subject to greater revision than usual, as the Bureau of Labor Statistics price collection processes were impacted by pandemic-related business shutdowns.
It would be incorrect to characterize consumer moods as improved, but they did manage a slight bounce upward in the preliminary reading of Consumer Sentiment from the University of Michigan Survey of Consumers. Any move in the right direction is noteworthy, even if the 1.9 point increase in sentiment only moved the needle to 73.7 for mid-May. The gain barely makes a dent in the 29.2 point loss from February to April, but it’s a start. As folks have come to perhaps better understand their current situations, the assessment of current conditions rose by 8.7 points to 83.0, while those tracking the outlook for the period ahead darkened, falling 3.4 points to 67.7 in the initial review. With shutdowns starting to ease but still no signs of a vaccine or even much by the way of treatment yet available the outlook for the months ahead can’t be much better than cautious at this point as there are legitimate concerns that outbreaks of COVID-19 will recur that could require new shutdowns and create more economic damage.
Applications for mortgages edged 0.3% higher in the week ending May 8, according to the Mortgage Bankers Association. We admit a little bit of surprise at the mix of applications and the trends they both are exhibiting. Take refinancing, for example; despite mortgage rates barely above record lows, applications for refinances declined by 3.3%, continuing a four-week slide. Usually, near-record low rates are enough to see homeowners looking to lower monthly payments and more, but it may be that the combination of millions of homeowners in forbearance plans and millions more who may still be paying mortgages as planned but whose household may not have the income needed to qualify for a new loan is curtailing activity. Of course, it’s also true that current rates are not all that much lower than we’ve seen recently — even rates as high as 4 percent were last seen nearly a year ago — so there may not be all that much pent-up demand of older, higher-rate mortgages to be expressed at current levels.
Conversely, mortgage applications to buy homes have been on the rise, with a 0.6% increase for the week of May 8 a fourth consecutive increase. While it is the traditional spring homebuying season, this season is most nontraditional, what with super-thin inventories of homes to buy that often must per purchased in nearly remote transactions. Still, that motivated buyers and sellers are finding each other does bode well for a return to more normal markets. Such “green shoots” of activity are encouraging even as normalcy may be a ways in to the future yet.
Low mortgage rates will continue to incent borrowers to try to buy homes, and refinance activity will no doubt improve should rates start trending downward. Fed Chair Powell’s assessment of the current and potentially future state of the economy and a growing sense among investors that V and W-shaped recoveries may be replaced with a “swoosh” pattern saw underlying interest rates mostly ease as the week progressed, leaving a fair opportunity for a new decline in mortgage rates for next week. Nothing major, mind you, but we think we might set a new low (or will be very close) for the conforming 30-year FRM as reported by Freddie Mac come next Thursday morning. Won’t take much; we are only five basis point above that mark at the moment.