Market Commentary 06/07/2024

Stronger Than Expected May Jobs Data Pressures Bonds

We were initially encouraged by the JOLTS report which showed signs of a cooling economy as interest rates trended lower, earlier this week. However, Friday’s much better-than-expected May jobs report exceeded expectations for job creation and wage growth, reversing this trend. As a result, interest rates surged, and the likelihood of a Fed rate cut has been pushed to September. Those hoping for rate cuts are focusing on the rise in the unemployment rate to 4% as a sign of a subtly eroding economy.

While there are early signs of consumer stress, such as rising credit card balances and commercial real estate defaults, it is difficult to justify a near-term rate cut after today’s employment report. Cumulative inflation has been a significant drag on our most vulnerable citizens. However, the consumer remains in good shape overall. The stock market is at record highs, with a resurgence of FOMO, reminiscent of the Gamestock mania. We will listen closely to Chairman Powell’s insights on the economy and the direction of rates. The anticipated pain that Powell suggested would be needed to bring inflation down never fully materialized. With the upper 30% of the US population enjoying strong home price appreciation, stock market wealth, and rising wages, the loosening of financial conditions may stoke further inflation.

Trending In Real Estate Finance

Smaller banks and creative lenders are making exceptions on home loans that make sense. We are seeing some banks begin to waive income requirements for very liquid borrowers, increase debt-to-income ratio limits to 60% for the right profiles, and accept a credit blemish or two with a good explanation. Given the slowing existing home sale market, lenders who can lend are doing what they can to approve loans. This is significantly helping good borrowers secure home loans that they would have easily qualified for just a few years ago. Notably, interest rates remain range-bound, and lenders remain eager for business, with our best-priced lenders offering rates under 6% for well-heeled applicants.

Market Commentary 05/31/2024

Rates Drift Lower As Inflation Data Matches Expectations

Despite a bumpy mid-week for bond yields, interest rates recovered following reports of slowing GDP and an as-expected PCE inflation reading. Additionally, a lackluster mid-week Treasury auction rattled the bond market, casting uncertainty amid ongoing US debt issuance. As discussed in previous analyses, a 10-year Treasury yield hovering around 4.50% appears justified with the current state of the job market, economy, and inflation. While the PCE number came in as expected, the real issue is inflation is not pushing lower and appears stagnant. 

High prices and interest rates have challenged housing affordability, resulting in declining home sales. Nonetheless, the recent surge in equities, particularly in the technology and AI sectors, has exceeded many market forecasts. This surge has notably impacted homebuyers in the $1.5M to $20M price range.

The unexpected rise in equities has contributed to a loosening of financial conditions, complicating the Fed’s stance on interest rate cuts. With the wealthiest 20% experiencing significant asset appreciation, including home and equity values, and high interest rates on their savings, the overall economic outlook remains positive. The consensus now points to one rate cut for 2024, a shift from earlier projections of up to seven cuts at the start of the year. In order to facilitate lower rates, one would need to see a worse-than-expected jobs report or some other major black swan. For now, the higher for longer projection remains intact.

Market Commentary 05/17/2024

Balancing Act: Bonds Rally Amid Mixed Inflation Signals

It was another positive week for bonds as CPI data turned out to be cooler than expected. Inflation concerns eased with a slight dip in mortgage rates by about a quarter point on many products.

However, it’s premature to celebrate just yet, as PPI, or wholesale inflation, turned out hotter than forecast. While companies will always try to pass on input costs, sustained inflation makes transferring these higher prices to the end consumer increasingly challenging. Although a milder CPI print is encouraging, we anticipate the Fed may lower interest rates only once this year, especially given the recent Fed communications suggesting the unlikelihood of a July rate cut.

Despite unemployment being below 4%, a soaring stock market, and consumers still in relatively good shape, the Fed seems inclined towards a “higher for longer” approach with interest rates. There’s a concern that lowering interest rates may fuel animal spirits and exacerbate inflation. Notably, the resurgence of “Roaring Kitty” this week sparked a surge in option trading on some Meme stocks, indicating a shift away from restrictive financial conditions.

Nevertheless, there’s a strong desire to reduce interest rates. If unemployment softens and the unemployment rate hovers around the 4.5% range, then the probability of lowered rates becomes more likely. Lower interest rates would greatly benefit the US Government amidst record deficit spending and the need to fund these deficits with bond issuance.

Market Commentary 5/10/2024

Declining Consumer Confidence Suggests Fragile Economy

We’ve perceived the economy as a mixed bag in the past year, diverging from the rosy outlook of many Wall Street economists. Although official employment and GDP figures indicate strength, the reality for many below the middle class suggests otherwise as individuals juggle multiple jobs to make ends meet. Inflation, often cited as a driver of nominal GDP growth, may be masking underlying economic challenges. This is evident in slowing sales for consumer-oriented businesses like McDonald’s.

Conversely, wealthier segments have thrived amid inflation, benefiting from appreciating asset prices and increased spending power. Nonetheless, recent consumer data suggests widespread struggles. Over the past 60 days, our mortgage brokerage and private lending business have witnessed a surge in requests for traditional and bridge financing, reflecting growing financial strain as the COVID stimulus wanes and inflation persists.

Now, the Fed faces a dilemma. Lowering rates risks exacerbating inflation, yet higher rates strain vulnerable citizens reliant on credit cards, mortgages, and loans. While a rate cut may be delayed until after the election, we’re increasingly optimistic about its likelihood, possibly in a significant manner. We foresee a Fed Funds Rate in the 4%-4.5% range by mid-2025, potentially bolstering the mortgage and housing markets and addressing yield curve inversion. Until then, the real estate sector must weather the storm.

Market Commentary 5/3/2024

Fed Believes Inflation Will Decline Without Further Rate Hikes 

Markets found solace as the Fed committed to returning inflation to 2% without the need for further interest rate hikes. The April Jobs Report was disappointing while jobs growth came in lower than expected, pushing yields on Treasuries and mortgage-related products lower. April non-farm unemployment clocked in at 3.9% up a tick and hourly wage growth cooled, a data point that must stabilize for the Fed to begin lowering rates.  

The economy’s trajectory remains uncertain, compounded by the unprecedented government spending in response to Covid. The influx of funds continues to impact the economy in unforeseen ways, challenging traditional economic models’ predictive accuracy. 

Overall, the economy remains a mixed bag and is a fool’s errand predicting where interest rates and the financial system are headed.  Even the Fed, with a world of data and Ph.D.’s, has been wrong during the last few years. With trillions of dollars moving through our economy, many economic models were not designed to interpret this type of spending with accuracy.     

Keep an eye on the Treasury issuance as the Government has increased the money it will need to borrow for Government funding.  This may put a floor on interest rates overall.  However, for the moment a 10-year Treasury of around 4.50% feels about right given the uncertainty in the world. 

Market Commentary 04/26/2024

Equity Markets Bounce Back As Inflation Firms

The near-term trajectory of interest rates became increasingly ambiguous this week. GDP growth rates slowed more than forecasted while inflation firmed up, indicating a prolonged path to reach the 2% inflation target. The ten-year Treasury yield remains steady above 4.500%, with expectations of staying within a range of 4.500% to 5.00% in the near term. Additionally the upward trend of core PCE, the Fed’s preferred inflation measure, further dampened prospects for a near-term rate reduction. Speculation suggests the first rate cut may not occur until December 2024. Chair Powell is likely to adopt a more hawkish stance given the rise in inflation, consumer spending, and the overall resilient economy.

While the economy appears robust and recession concerns have eased, underlying issues remain. Credit card debt has increased, accompanied by a rise in late payments. This is a strong indication that the surge in living costs is becoming increasingly burdensome, particularly with credit card rates exceeding 20%. Commercial real estate, especially office and some multi-family projects is under considerable stress. With interest rates on the rise, more defaults will be coming. With mortgage rates for conforming loans reaching the high 6’s to mid-7’s and high-quality jumbo loans hovering around the 6’s, there’s apprehension about a potential slowdown in the home purchase market, particularly in existing home sales. Despite this, the new home market continues to attract strong interest driven by home builders, incentives, and access to inventory.

Navigating the real estate and lending landscape in today’s environment poses significant challenges. Banks facing capital constraints and market volatility affect lenders’ ability to lower interest rates in a dynamic landscape. Constantly surveying the marketplace has become a daily practice for our team, enabling our boutique brokerage to secure deals effectively. Understanding the nuances of the market is paramount, given the notable variance in rates—sometimes up to 1/4% – 1/2% —among lenders offering similar products. This underscores the importance of being a broker and having access to a diverse range of products, from private banking and niche portfolio loans to government and conforming loans.

Market Commentary 03/01/2024

How Non-Traditional Mortgages Are Benefiting From Animal Spirits

Speculation and momentum are driving many public markets, from cryptocurrencies and zero-day options to companies at the forefront of AI. Even non-fungible tokens are seeing renewed interest. Investors seem willing to take on more risk for less reward, as evidenced by compressed bond and equity spreads. Expectations of higher interest rates persist, yet animal spirits remain strong, suggesting that financial conditions may not be as tight as feared. The outlook for rate cuts has diminished. Renewed discussion by economists indicates the possibility of only one expected cut (the consensus of 3 cuts remains).

Interestingly, in the residential mortgage market, non-traditional lenders are competitively pricing single-family, mortgages. Borrowers with some income documentation, good credit, and a larger down payment, may secure mortgages at rates in the mid-6s. This represents a significant improvement from just a few months ago, particularly for non-QM products catering to less traditional borrowers. Also, these lenders continue to raise jumbo loan limits. These products, only slightly higher in interest rate than traditional loans, support real estate and mortgage brokers in their accessibility. 

A recent bullish publication featured balloons floating into the sky, which may indicate a sign of market exuberance. Front-page stories often precede market peaks, and while we say this half-heartedly, it’s worth noting. Despite potential headwinds such as geopolitical tensions, higher oil prices, and persistent inflation, the market seems to be discounting them for now. If sentiment turns, bonds could rally. This would push mortgage yields lower right in time for the spring buying season.

Market Commentary 02/23/2024


The Promise Of AI & How It Will Affect Real Estate

As the promises of artificial intelligence (AI) and machine learning continue to propel equity markets, significant transformation lies ahead for various industries, including the mortgage business. While this shift may evoke both excitement and apprehension, embracing AI-driven processes offers the potential for increased efficiency, streamlined operations, and enhanced profitability.

But why is a real estate newsletter delving into the realm of AI? The answer lies in recognizing AI as a disruptive technology poised to revolutionize our lives akin to milestones like the automobile and flight. Moreover, it serves as a deflationary force, gradually reducing costs across goods and services.

In the context of residential real estate and mortgage origination, AI has the potential to identify promising prospects within each of our networks by leveraging vast computing power to assess probabilities. For realtors, AI can pinpoint prospective buyers or sellers based on life circumstances or shifts in employment status and provide real-time triggers. 

This forward-looking optimism in the market has implications for interest rates, likely keeping them elevated for longer periods due to positive economic outlooks. As equity markets surge and financial conditions ease, individuals are inclined to spend more. Such increased activity prevents inflation from being lowered, delaying the anticipated rate cuts by the Federal Reserve. Consequently, interest rates have risen, with conforming loans hovering in the mid to upper 6% range, and jumbo loans around 6%.

In line with our assessment, a major Wall Street research firm has reached a similar conclusion: the overall expense of retaining a home you no longer desire is likely to bolster existing inventory. This is particularly true with rents on the decline and so many multi-family units becoming available. Such a trend has the potential to ease some of the strain on housing affordability and open up fresh opportunities in the real estate market.

Market Commentary 02/16/2024

 

Inflation Proves Sticky As Interest Rates Rise

We are sensing not all is well in the world and that it’s time to be mindful that the rise in equities doesn’t tell the whole story. For those who follow these things, company after company is laying off workers suggesting that the unemployment rate may be headed higher. Commercial real estate loan portfolios held by large banks are increasingly at risk. The US debt now well above $34 trillion is no longer tomorrow’s problem.  Massive Treasury issuance in the coming months may put additional pressure on bond yields.

Of additional concern is a hotter-than-expected CPI print, and the stickiness of service-related inflation. Friday brought yet another disappointing inflation report, with the PPI or wholesale inflation readings leveling off.  As we have suggested in past commentaries, inflation is a tricky beast, and bringing it down to 2% from current levels will take time. This has pushed out the odds of the first-rate cut to June from March, which was the belief of the markets a short while ago. 

We are now left with the higher for longer interest rates story, which we think should increase the supply of homes and bring down home pricing over time. Outside a person’s mortgage as a reason to keep their home, there is the dramatic rise in the costs to maintain the home along with the cost of insurance, as well as the climbing expense of overall living, which may work to realtors’ favor this spring (especially for empty nesters). Simply holding on to a home because of a low mortgage makes less economic sense if the other expenses rise enough to offset the benefits. 

On the positive side, the single-family 1-4 lending market remains quite liquid. The combination of big and small banks, mortgage banks, and Life Co firms in the space has created a considerable suite of products. Also, because rates are not likely to go up much further banks are tightening spreads on loans to win deals. 

Listed below are examples of some of the more interesting products:

  • 1st mortgages up to 80% to $10M and 75% to $20M with rates starting a touch above 6%
  • 1st mortgages with 10% down program available up to $3M with rates starting above 7%
  • 1st mortgages with 40% down and no income or employment verification loans up to $3.5M. Rates start at mid 7%
  • 1st mortgages crossing other properties with no down payment up to $15M with rates in from 6%-7%
  • Construction loans for personal residences up to 65% of cost to $15M with rates from 6%7%

Market Commentary 02/09/2024

Direction Of Economy Uncertain As S&P Breaks 5K 

If you’re feeling confused about the economy’s trajectory, you’re not alone. As a recap, the stock market has been soaring to new heights driven largely by the optimism surrounding AI. Certain high-frequency indicators like auto and credit card delinquencies have spiked. Inflation levels are off at a rate over 20% higher than in previous years. Finally, many in the US remain unsettled about their future as they are forced to live paycheck to paycheck, even while earning over $100K per year. 

Just weeks ago, Wall Street anticipated six or more rate hikes, but now forecasts have been revised down to perhaps four. Ongoing hints from the Fed suggest potential interest rate reductions by mid-year. We reiterate inflation is public enemy number one and that is why the Fed will move very carefully with rate reductions.  

Despite ongoing challenges, the housing market remains resilient, with homeowners reluctant to part with their low-rate mortgages. Nonetheless, the limited housing supply continues to strain affordability. Paradoxically, lower interest rates could stimulate existing home inventory, alleviating supply constraints and offering more choices to buyers. 

Commercial real estate, particularly office spaces, is facing significant pressure. Prolonged interest rates raised by the Fed may hasten the exposure of poorly underwritten transactions with historically low cap rates, rendering them unfinanceable. Additional events, such as the collapse of a large European real estate fund (as reported in the WSJ) hint at more difficulties ahead for this sector. 

Amidst robust economic data, low unemployment, and a thriving stock market, long-term interest rates are likely to remain relatively stable for now. Our forecast of the 10-year Treasury trading between 4% to 4.5% remains consistent, with inflation settling around 3%.