July 31, 2020 — As we pass the peak of summer and start the all-too-fast run toward Labor Day and autumn shortly thereafter, all we can do is watch the time pass and hope that each passing day brings us closer to a conclusion of the pandemic. Presently, that remains a distant goal, so we must continue to slog through these unusual times down an unclear path, and amid ongoing economic and social wreckage the coronavirus has brought.
The partially-open economy here and across the globe needs all manner of support; central banks around the world have responded as best they can and political bodies have chimed in with as much fiscal assistance as they can manage, but more will yet be needed to tide many over these difficult periods. Here in the U.S., competing proposals to spend anywhere from 1 to 3 trillion more future tax dollars need to be reconciled by Congress, and soon, but sharp divisions in what to support and by how much between the political factions make the timing of new fiscal help unclear. As the election is less than 100 days away, both sides would like to get a deal in place soon, but what compromises can be made are unclear.
The Federal Reserve met this week in a two-day, policy-setting meeting. For the moment at least, the outcome was simply a continuation of existing policies of short-term interest rates near zero, maintaining “at least” the current level of purchases of Treasuries and Mortgage-Backed Securities for the foreseeable future and maintaining its other asset-backing and lending facilities until at least the end of the year. “The path of the economy will depend significantly on the course of the virus”, said the statement that closed the meeting, and without having a sense of how that will play out, the best the Fed can do at the moment is to remain “committed to using its full range of tools to support the U.S. economy in this challenging time, thereby promoting its maximum employment and price stability goals” even as they wait to see what kind of new fiscal supports Congress can engineer. The size, shape and form of that may in turn dictate what (if anything) the Fed will need to do next.
Orders for durable goods climbed by 7.3% in June, building on a 15.1% increase from May. As has been the case with other data series, a couple of good months makes a dent into but doesn’t erase the plummet from the March-April pandemic shutdown. When weighed against year-ago levels, orders for durable goods are still 12.7% below last June, and the year-over-year comparison has been a negative one in five of the last six months. Still, any signs of a pickup in activity are of course welcome, and the measure of orders outside of defense and aircraft (a proxy for business-related spending) strengthened a bit, rising 3.3% for June and improving on May’s 1.6% uptick.
Factory activity did revive somewhat in June after a COVID-19 slumber, and of late, there have been more signals that July has built on that progress. The latest came from a local review of factory activity in the Federal Reserve Bank of Richmond’s district, where their gauge of manufacturing rose by 10 points to a value of 10, this indicator’s best showing since January. A submeasure that tracks new orders edged higher, adding two points to land at a reading of 9, while another that measures labor activity moved up three to -3, an improvement, but the fifth consecutive below par reading, so both the trend and the current level of employment activity remain weak.
With mortgage rates at or near record lows on a number of occasions, it’s to be expected that home sales have picked up, even with the coronavirus making like challenging for buyers and sellers alike. We learned last week that existing home sales for June (reflective of activity in late April most of May, when things were re-opening) played a bit of catch-up, rising by 20.7% to 4.72 million (annualized) units sold after a three-month series of declined. This week, the National Association of Realtors Pending Home Sales Index posted a gain of 16.6 percent in June over May. This indicator tracks signed contracts; not all contracts will make it through to closing. However, if they did, this would suggest that sales will kick higher for July and likely August, too, and this would put the annual run rate of sales in the mid-5 million range — about where they were to start the year and before the pandemic made a mess of things.
New applications for mortgages softened a bit in the week ending July 24, but as this is typically the height of vacation season and mortgage rates have been essentially in the same small range for weeks, there’s really not a lot of urgency for borrowers to jump in for a refinance, and purchase activity remains more throttled by a lack of inventory to buy than not. According to the Mortgage Bankers Association, overall applications for mortgage credit slipped 0.8%, with those for purchase-money mortgages easing 1.5% and refinances by 0.4% for the week.
Consumer moods seem to be showing a bit of rebound fatigue. As measured by the Conference Board, Consumer Confidence flagged a little in July, as their barometer dropped 5.7 points to land at 92.6 for the month. Although improved over the depths of the shutdown, this indicator remains well below pre-pandemic levels in February where it notched a reading of 132.6 before the bottom fell out. Sub-indexes that cover near- and far-term confidence moved in different directions; current conditions in July were rated more favorably, sporting a rise of 7.5 points to 94.2, but this is still only a little better than half the January level despite two months of gains in a row. Expectations for the future did dim appreciably, though, and posted a 14.6 point fall to drop to 91.5, a value close to March lows. Buying plans for autos remained steady, as did those for appliances, while interest in purchasing houses increased. Record low mortgage rates are likely the cause of that despite the difficult economic climate for many.
The final July review of Consumer Sentiment from the University of Michigan also revealed a less optimistic assessment. The headline sentiment indicator slid by 5.6 points, landing at 72.5 for the month, just a whisker above pandemic lows. Current conditions were rated less favorably, with the 4.3-point decline dropping this component to 82.8, while the longer-term outlook darkened rather a bit more, with a 6.4-point fall leaving the forward assessment at 65.9, matching the pandemic low set just two months ago. The fresh outbreak of coronavirus across a number of states was of course the reason for the fall in enthusiasm, and an murky path for school and university re-openings is probably causing additional anxiety, too. Softer consumer sentiment may presage some curtailment in spending in the coming months.
The latest report covering the nation’s Gross Domestic Product came in about as expected — horrific. The second quarter of 2020’s advance review for GDP was one for the record books, but not in a good way, as the annualized decline for the period was 32.9 percent. With the decline in output came a collapse in prices, too, with Personal Consumption Expenditure prices shifting from +1.3% in the first quarter to -1.9% in the second; so-called “core” PCE (a measure which eliminates many highly-volatile components) also did an about-face, dropping from +1.6% in the first stanza of 2020 to -1.1% in the second. It’s hard to put a good face on such an awful report, but if anything, initial estimates when the pandemic shutdown first started to take effect were indicating a GDP in the -50% range, so there has been a bit of improvement since then. Given the uneven nature of the re-openings of the economy and now new restrictions in some places, it’s hard to reckon what Q3 GDP might look like, but even with marked improvement across a number of components of the economy, a still-negative but less-severe number might be all we can hope for at this point.
That the outlook for the third quarter has dimmed a bit can easily be seen in high-frequency readings of the labor market. Initial claims for unemployment benefits essentially stopped improving seven weeks ago; in fact, over that period, initial claims have declined by a cumulative 132,000 — about one third as much as was seen eight weeks ago (week of June 6) when 331,000 fewer applications were filed around the country. Worse, the last two weeks have seen increases rather than decreases, so the trend has stopped improving altogether. With 1.434 million folks filing for help in the week ending July 25, hundreds of thousands more getting special Pandemic unemployment support and 17.1 million people receiving continuing checks it’s quite clear that a healthy labor market remains a long-distant goal, and that if the economy gets its legs under itself before too many businesses disappear or permanently downsize their workforces.
Personal incomes declined in June, sliding by 1.1% as government support payments continue to fade after an April boost. Wages did manage a second solid increase, rising 2.2%, and other components of income such as business-owner incomes gained with the re-opening of businesses in many places. Drags on income included sliding rental and asset-generated income, but the largest drag was another 8.9% decline in transfer payments (stimulus checks and other such supports). With labor markets still very weak, federal income support will continue to be needed to keep the economy moving at all. Despite lessening incomes, folks felt better about spending, and overall personal outlays rose by 5.6%; at least a portion of dollars available to support that spending came from savings, and with more outgo then income, the nation’s rate of savings dropped back to a still-significant 19% (from an unheard-of 24.2% in May). As measured by personal consumption expenditures (PCE), inflation edged a little higher in June, rising by 0.4%, but core PCE was flat at 0.2% for the month, but the Fed and investors will be ignoring inflation signals for a good long while.
The cost of keeping an employee on the books rose 0.5% in the second quarter, according to the latest Employment Cost Index. That was a slight retreat from a 0.8% increase in total compensation seen in the first quarter. Wages edged slightly higher, rising 0.4%, while benefit costs rose 0.8%. Over the last year, the annualized ECI is running at a mild 2.7% and seems unlikely to press higher given current labor market conditions.
Although there continues to be a fair bit of downward pull on mortgage rates, they remain stubbornly tethered at about present levels. Presently, the balance between the poor economic climate and Fed policy stance and bond-buying programs that should be pulling rates down is being offset to a nearly equal degree by the risks of making, servicing and investing in mortgages. Although the number of mortgages in forbearance programs continues to decline ever-so-gently, storm clouds of potential future loss remain prominent, what with unemployment at extraordinary levels and the amount and duration of any future fiscal support for homeowners and renters still unclear. Even if an effective COVID-19 vaccine was announced tomorrow, it will take a year or more to distribute it on a wide enough basis to do much good. Between now and then, there remains a lot of economic difficulty to endure, and this likely spells continuing trouble for participants in the mortgage market, whether homeowner or investor.
For next week, we think there is a good probability that we’ll see at least a small decline in mortgage rates. Any move of more than a basis point in the averaged offered rate for a conforming 30-year FRM as reported by Freddie Mac will be a new record, and that’s probably what we’ll see come next Thursday morning. Whatever the decline may be, it would likely be a whole lot more if risks were abating, but new record lows will have to do, no matter how small the move into new territory it may be.