Wentz Weekly Insights
Rising Rates and the Housing Market
Recent data on the housing sector for February suggest the market is cooling but remains near the highest levels since the housing boom of the 2000’s. Sales of existing home, which make up a majority of the housing market, fell 7.2% in February to an annual rate of 6.02 million units. Sales of newly built homes fell 2.0% in the month to an annual pace of 772,000 homes. The drop could be a result of the continued shrinking of inventory, but also affordability due to higher prices and higher interest rates. The median price of a new home is $400,600, up 11% from a year ago, while the median price of an existing home is $357,300, up 15% from a year ago.
Prospective buyers understand the lack of homes on the market. The inventory of existing homes worsened in February with just 870,000 units on the market, down 16% from a year ago and equivalent to 1.7 months of supply at the current sales pace. Inventory of new homes would last 6.3 months at the current sales pace, but includes homes where construction is not finished or not started. Looking at just the supply of newly completed homes would last just half a month at the current sales pace, the lowest since 1999.
According to the Freddie Mac weekly mortgage survey, the average prime 30-year mortgage rate was 4.42% in the latest week, the highest level since January 2019, up from 4.16% the prior week and up from 3.11% the beginning of January. Because of higher prices and higher interest rates, home buyers are paying an average of 28% more for a home they could have bought 12 months ago. In 2021, investors took advantage of the strong housing market, making up over 20% of all home purchases, but in recent months that investor demand is cooling – in February making up 19% of all purchases. Some investors look to flip the house for a profit while others rent them out.
These factors will likely lead to a persistent increase in the shelter component of the consumer price index (CPI). Shelter costs come from owners’ equivalent rent, or the implicit rent that owner occupants would pay if they were renting their homes, and make up about 40% of the CPI. This number lags the change in home prices by about 12-18 months which suggests inflation will remain elevated, being more driven by shelter costs over the next several years as it starts to reflect the sharp rise in home prices over the past 1-2 years.
With mortgage rates correlated to the 10-year Treasury yield, it is likely mortgage rates may continue to climb. In a speech last Monday, Fed Chairman Powell gave a more aggressive tone than what was portrayed in his press conference after the Fed’s meeting March 16th (see last week’s newsletter here). Powell spoke on how the inflation situation has “deteriorated significantly” and warrants a more restrictive level of policy and suggested the Fed is ready to raise rates by half a point (0.50%) at not one but several of its upcoming meetings. This would indicate the Fed’s intention of front-loading rate increases to tackle the inflation problem sooner, rather than slow and steady.
Despite the Federal Reserve communicating a more aggressive policy stance, US equity markets rallied over the past several days even with treasury yields moving much higher across the curve. While this would typically be a drag on stocks, we think the markets moved higher for several reasons. One is that stocks were near oversold territory and a bounce higher was bound to happen as the VIX (volatility index) moved lower. Powell gave a more optimistic view on the economy as well and the current path suggests the Fed will do more now instead of less and having to be more aggressive later which would feel like the Fed slamming the brakes on the economy and risk a recession.
The question is, with inflation proving to be more persistent, has the Fed waited too long to act? Time will tell, but one thing we do know and have continuously communicated is increased volatility should be expected with the uncertainties that remain. As a result we continue to favor income producing investments.
Week in Review:
It was a much quieter week from a headline perspective for markets last week. US markets opened the week flat but moved lower mid-day following comments from Fed Chairman Powell’s speech on restoring price stability. Stocks were able to recover most of the losses with the S&P 500 closing down just 0.04%, but the Dow was down 0.58% as Boeing dragged the index due to concerns over a crash of its 737 jet in China. Powell indicated in his speech the Fed is prepared to raise rates 50 basis points, a more aggressive move, to get policy to a more restrictive stance. Treasury yields moved higher across the curve as a result and oil moved back to $110/barrel on news Europe is considering a ban on Russian oil. There was optimism in Ukraine again after President Zelenskyy said he is willing to commit to not joining NATO if Russia agrees to a cease fire, pulls its troops, and guarantees Ukraine’s security, while mentioning this needs to be done via a face to face with Putin, but uncertainty remains over Putin’s plans. Stocks built on Monday’s momentum and moved higher with the S&P 500 closing 1.13% higher and the NASDAQ up by 1.95% bringing their six day rally to +8.1% and 12.1%, respectively. As President Biden made his way to Europe for the two-day NATO meeting, markets moved lower after a six day winning streak. Treasury yields and oil continued to move higher, with crude oil closing up 5% to $115/barrel for the day, making energy the best performer, and one of two positive sectors (along with utilities), for the day with a 1.72% gain. The S&P 500 fell 1.23% for the day. The NATO meeting was the big highlight on Thursday, where the alliance discussed next steps on handling Russia’s invasion of Ukraine. The US and EU walked out with an agreement to supply the EU with natural gas to help replace the 40% that the EU imports from Russia. Treasury yields and oil moved higher again and the S&P 500 gained 1.43%. It was another relatively quiet day on Friday with value outperforming growth on a day that finished mixed but was enough for US stocks to finish the week positive again. Oil closed near $115/barrel while yields rose again, the yield on the 10-year Treasury finished the week with another strong move higher, by 34 basis points to 2.49%. The major U.S. stock indices finished the week as follows: NASDAQ 1.98%, S&P 500 +1.79%, Dow +0.31%, Russell 2000 -0.39%.
Recent Economic Data
- New single family homes sold fell 2.0% in February to an annualized pace of 772,000 homes, and below the expectations of 810,000 according to the U.S. Census Bureau. New home sales are down 6.2% from February 2021. The lower sales pace is being held back by low supply of new homes due to a slower pace of new construction of new homes and higher prices. The median price of a new home was $400,600, down 6.3% from January’s median price, the second highest on record, but up 10.7% from a year ago. The inventory of new homes would last 6.3 months at the current sales pace, but that includes homes where construction is not finished or not yet started. If you look at just the supply of completed homes, there is just 0.5 months of supply at the current sales pace, the lowest since 1999.
- Jobless claims fell 28,000 for the week ended March 19 to 187,000 claims, the lowest level of new claims since 1969. The four-week average moved down to 211,750, a decrease of 11,500. Continuing claims were 1.350 million, down 67k from the week prior, for the lowest level since 1970 when the population was 38% lower than it is now. The four-week average of continuing claims was 1.431 million, also the lowest since 1970. No matter which way you look at it the labor market is very tight.
- Consumer sentiment in March fell to its lowest level since 2011. The index, derived from a survey by the University of Michigan, fell to 59.7 from 62.8 in February. Consumer’s expectations on the economy fell slightly with the expectation index at 67.2 down from 67.8, while the current situations index fell to 57.3 from 57.4. Prices drive a lot of sentiment and consumers expect prices to rise 5.4% over the next year, the highest since 1981. This is a fear of the Fed as higher inflation expectations could become a self-fulfilling prophecy.
- Alibaba increased its share buyback program to $25 billion, up from $15 billion. Shares rose 11% after the announcement.
- Boeing shares fell 3.6% last Monday after a Boeing 737 operated by China Eastern Airlines crashed with 132 people on board in China’s southwest province of Guangxi. The plane has excellent safety record and is separate from the 737 MAX planes that have been grounded since 2020.
- In one of its biggest strategy changes, Uber made a move to partner with one of its largest rivals and made an agreement to list all New York City taxis on its app effective this spring. Passengers will pay roughly the same fare for taxi rides as for Uber X rides. Uber and its taxi partners will receive a cut of the fare, which the companies declined to specify the terms. By 2025 Uber said it wants to list every taxi in the world on its app.
- Tesla announced its plans to request stockholder approval at its upcoming shareholder meeting to increase the number of authorized shares in order to do a stock split in the form of a stock dividend.
- According to a report from Nikkei Asia, Apple is reportedly cutting the production of its iPhone SE by 20%, or about 2-3 million units, which was revealed three weeks ago, and AirPods by about 10 million units due to the war in Ukraine and the deteriorating consumer confidence.
- In a speech on restoring price stability, Federal Reserve Chairman Powell spoke on how the inflation situation has “deteriorated significantly” and may require a more restrictive policy stance, in other words, interest rates above the equilibrium level. Powell was optimistic that the Fed would be able to orchestrate a “soft landing” – tightening policy enough to control inflation while not destroying demand too much where it pushes the economy into a recession. Powell gave a strong indication the Fed is open to raising rates by a more aggressive 50 basis points not just the upcoming May meeting, but at the next several meetings. Since the Fed meeting March 16, Powell and Fed members have taken a much more hawkish stance (tighter policy = higher rates to slow demand and inflation).
- A 510 page proposal by the Securities and Exchange Commission aims for more progressive policies requiring public companies to disclose a significant amount of information about climate related risks and greenhouse gas emissions in a standardized way. This should face push back as those opposed say it is outside the scope of the SEC’s authority. The proposal now goes to a comment period for 30-60 days before any final ruling.
- Russia allowed its stock exchange to reopen last week, the first time since late February, with limited hours and limited companies trading. Authorities banned short selling as well as trading from foreign share owners while its government pledged $10 billion from its wealth fund to help support equities, helping the limited shares that were trading move higher. Its market rose as much as 12% before giving up most the gains and closing up 4.4%. Russian ETFs that trade in the US are still not trading as some depend on Russian stocks that trade on international exchanges where trading is still suspended for Russian stocks.
Did You Know…?
Slow IPO Market:
The Financial Times reported that data from Dealogic shows the big five investment banking firms (Goldman Sachs, JP Morgan, Bank of America, Morgan Stanley, and Citigroup) have generated $645 million from equity capital market fees so far in 2022. This is a massive drop from $5.3 billion the same companies generated over the same period last year. The fees come mostly from initial public offerings and other deals. From February 17 through March 14 there was not a single traditional IPO in the U.S., the longest streak not resulting from a holiday season. The drop in activity is mostly due to the drop in market prices and the increase in volatility, as companies are hesitant to go to the market for new capital over concerns on the price they would get for newly issued shares.
Two Years Later:
Last Wednesday marked the two year anniversary of the market bottom due to the shutdowns at the beginning of the Covid pandemic. In 23 trading days the S&P 500 fell 35.4% to a low on March 23, 2020. Since then, the S&P 500 has gained 103.3%, while the NASDAQ has gained 109.9%.
Update on Tax Forms
As tax time is upon us, please be aware of this important note:
- Clients with retirement accounts (traditional IRA, Roth IRAs, etc.) will be receiving TWO 2021 Retirement Tax Packages (this includes Forms 1099-R and/or 5498). Raymond James made a back-office change where Raymond James Trust Company of New Hampshire (RJTCNH) is the new custodian of IRAs (you and your accounts are unaffected by this change). This change became effective September 7, 2021 and as a result accounts that had reportable activity before and after the Raymond James custodianship change will be receiving TWO tax packages. Please take note the second package is not a duplicate of the first. All forms must be used when completing the 2021 tax return.
- The first package contains reportable activity occurring from January 1, 2021 – September 3, 2021, under the RJA custodianship
- The second package will contain reportable activity occurring from September 7, 2021 – December 31, 2021, under the RJTCNH custodianship.
For more information on when you will be receiving your tax documents, please refer to this email.
The Week Ahead
Stocks will look to close the first quarter with the third consecutive weekly gain and face a busy economic calendar but corporate calendar that remains light. The economic calendar includes growth, income, consumer spending, and labor market data with the final revision of fourth quarter GDP, the personal income and outlays, and the employment report. Quarterly growth is expected to be revised up to 7.1%, personal income and spending estimates are both at 0.5%, and consensus sees roughly 150,000 new jobs in March. Elsewhere, we will see an update on home prices with the Case Shiller Home Price Index on Tuesday along with Consumer Confidence and the Job Openings and Labor Turnover Survey, followed by jobless claims on Thursday, and manufacturing surveys on Friday. Notable reports on the earnings calendar are Lululemon, Micron, and Chewy on Tuesday, Five Below, BioNTech, and Paychex on Wednesday, and Walgreens and Blackberry on Thursday. Energy markets will remain in focus, with an OPEC virtual meeting, where production is expected to remain unchanged, and Europe figuring out how it will replace the roughly 40% of its natural gas it imports from Russia.