Rate Traps and Mortgage Twists.


After a day of no BoEase and a lot of ECBlah, TMM are distracting themselves from a market creep they are not aboard by thinking about the "QE-forever" talk that has never been that far away and about some of its longer term implications.

Now, obviously QE should affect everything denominated in fiat currency and TMM can wax lyrical about how if you define the word ‘help’ in a certain way, QE was the best invention since keyrings. But for brevity’s sake, today TMM will focus on the asset that has the largest impact on consumer behavior – housing. Due to data availability, we will just be look at housing in the US, although arguably the conclusions can be generalised.

Clearly, by driving down mortgage rates, QE has been enormously helpful for consumer spending. But just how helpful? Well, as of December, the US national average interest rate for existing mortgages was 4.87%, 10% lower than only 2 years ago and a full 17% lower than 2008 levels. If we take the same weightings as the BLS, who apply a 24% weight on primary residence costs in its CPI basket, we could deduce that the 17% drop in effective rates is an implied 4% bump in disposable income, or roughly 1% per year, before wealth effects are taken into account.

The impact on apparent housing affordability has been no less dramatic. The median US household income as of 2011 was ~$50,000, a level which has been broadly stable for the past 5 years. At the end of 2010, with mortgage rates at 5%, the average US household was able to afford a $301,000 house based on debt to income limitations on conventional mortgages. At the end of 2012, with mortgage rates at 3.5% and with income unchanged, the average family is able to afford a $360,000 house, a 20% increase. In other words, the decrease in mortgage rates has increased the maximum allowable home price to income ratio from 6.0 to 7.2. What’s not to like?





This, of course, is all part of the central bank master plan. By lowering real interest rates, the private sector will take on more debt, spend more, and prosperity can reign. Indeed this seems to be happening and with declining debt payments, US households appear to be re-levering and after a sharp drop, US house prices have started to tick up again relative to incomes:




But wait, there is more good news. Given that rates for new mortgages are still more than 25% below the average for existing mortgages, there is still a substantial easing in store. A continuation of recent trends would result in a further 50bp decline in existing mortgage rates over the next 2 years, (about 10% cheaper).





Now you may ask why TMM is concerned with all this good news (not that we don't like good news). The answer is embedded in the chart above. Note that the US has never survived an instance in the last 14 years where new mortgage rates exceed existing mortgage rates without the economy tipping into a recession. And that makes sense. Without increases in real income, mortgage rates which are no longer supportive to house prices ultimately result in declining expenditures. In other words, and this is the worrying implication, without income growth there is an interest rate at which the US will tip into a recession. And that rate is declining, even as the private sector re-leverages. In 2 year’s time, that rate will probably be ~4.5% for fixed rate mortgages. If mortgage to treasury spreads stay constant at ~150bps, that would imply a 3% recessionary ceiling for 10y treasury yields.

However, going further back in history we can see that there is one clear exception to this crossover rule. The 1994 bond collapse, where the swift and severe bond market fall had to be swiftly countered by Fed policy response to successfully contain economic fallout.



However today's proximity to the zero bound in both Fed rates and mortgage rates themselves sees there being no room to manoeuvre with either input other than with more QE. QE has been described by various prognosticators as a drug. On this basis TMM find it hard to disagree.

Now here is another little twist we have spotted. In addition to the fact that declining interest rates encourage leverage, they also act as a price for intergenerational wealth transfer. Huh? Well, new home buyers tend to be predominantly young families, while sellers tend to be retirees. As lower interest rates increase the present value of housing prices, new buyers increase leverage to purchase homes, and they take on a larger debts to do so.

Lower interest rates have helped delay the need to restructure social security and medicare, thereby allowing their funded status to worsen. As those programs are essentially inter-generational transfer vehicles, their worsening financials have been described as akin to the elderly stealing from the young. TMM would like to point out that artificially low mortgage rates do the same thing.

"One might argue that letting future generations bear the burden of population aging is appropriate, as they will likely be richer than we are even taking that burden into account." - Benjamin Bernanke, 2006

Grumpy Old Git Footnote- TMM can't really see what the problem is with the older generation having the wealth anyway. All the young have to do is wait a couple of years and they'll just inherit it, which is not an option if it were the other way around. And anyway, wealth is hardly something that hasn't been poured by the bucketload down the intergenerational divide at chez TMM to sustain the next generation's media hyped beliefs of normality. TMM have found that most things they have given their kids have either been broken or lost, so best we only let them have our possessions once we have finished with them! 

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March 8, 2013 at 12:41 AM ×

Just an observation, but 300+ on 50k per year is insane. No wonder it all went to hell.

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Anonymous
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March 8, 2013 at 1:21 AM ×

to uneducated me, the holders of financial assets (especially fixed income) tend overwhelmingly to be the elderly (as it is the young who can/ought to take all that variance risk from equities, risk-parity asset-allocation ideas not withstanding).

So how do nominal FI instruments which imply incredibly low real-rates and that will fall into the Hold to Maturity buckets of pension/insurer/elderly represent a transfer from old to young, especially if inflation should return alongside growth? It seems like the retiring elderly are in danger of locking themselves into low nominal rates for a life-expectancy-extended, brutal retirement...
(aside, I'll say that the baby boomer generation seems to have few fans, even amongst itself)

If nominal incomes grow fast enough, levering into housing (especially in housing-price distressed areas like your overbuilt sunbelt) seems like a great move for a young person, no? Grab that inflation protected asset while you can? Which is maybe why your Blackstones of the world are interested in single family housing on a large scale?

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Anonymous
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March 8, 2013 at 8:03 AM ×

C Says
http://www.businessinsider.com/morgan-stanley-on-us-dollar-2013-3

And that Mr Reformed Broker is why you need to be very careful about one dimensional thinking that pares US mutual funds moneyflow and US equity performance into a definition of "Euphoria",or lack of it."Euphoria" does not enjoy such a narrow source for origination.
FWIIW I'm still not getting the "Euphoria" thing anyway,because we know what price action shape that looks like and this is not it yet.Matters simply look frothy at this stage I think.
Moreover that breakdown in correlation tends to be a function of misallocation at a fundamenta level eventually,but it takes time to feed back to the B/S.

Yesterday we talked about inability to understand the economic process. The current comments from the above point towards the redistrubution implications of QE policy sand the swap ,or I should say swaps that are taking place.

In geenral the future (growth) is about the younger generations. The misallocation rests with the capital accumulation which the older generations. The futire income stream is really an issue for the younger generation. The releasing of asset values is a matter for the older end.In between of course is that fuzzy ground mixing up negative equity and squeezed income.The liquidity trap zone.
Current policy with an end goal of creating infaltionary growth to curtail that liquidity trap can be examined for it's impications across all three groupings.IMO it's better to do that using economic implications and leave aside extraneous judgemental issues on the right and wrong of such policy.

Economically you want to build your future growth where the productivity is most promising so you shape policy to ultiately create income at the younger end supporting asset value at the older end and the swap takes place between the two. It does not necessarily follow that there is an outright winner between the groups in quantative terms although there may be. The balanced outcome is clearly to expand income for one group constrining income probably for the old group,but the supporting of asset value (accumulated wealth) favours the older over the younger.
This assumes that the policy runs it's course and achoieves it's goals.
The logic of course extends even to the way economic behaviour exhibits amngst the groups. You get older you tend to consume less than when you are younger which is actually when you consume the most hence it's also why you are at your most leveraged when you are younger.

For the UK the rpoblem is one of timing. Incomes under current policy at this time have still not responded ,but Fwiiw the employment situation is supportive of the comment that if the policy continues to run it's course then incomes will eventually respond.

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Anonymous
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March 8, 2013 at 8:36 AM ×

The problem with your footnote, TMM, is that this future windfall is heavily skewing incentives.

For most people who are going to be on the receiving end of it, it represent many multiples of what could ever be achieved on labour income. Gross it up by the respective tax amounts, and it is no contest. (and we are not talking massively wealthy people here, anyone with folks who has owned real estate outright for the past say, 20-25yrs qualifies)

It stands to reason that such a discrepancy will and does affect activity and investment, and not in a positive way.

Now, we are obviously talking our book here, but it sounds to us that there is a not unreasonable case to be made that we need less rent and more activity/investment, and that fiscal incentives should be geared towards that goal.

Lower income taxes and higher charges on assets.

Or God forbid, inheritance goes into the income pool when you have to send your sheet back to the taxman.

Just my 2c.

DD

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Anonymous
admin
March 8, 2013 at 9:24 AM ×

Point well taken on "kids ruin everything" though. No argument there.

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Anonymous
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March 8, 2013 at 9:48 AM ×

C Says
I'll have to disagree on the "kids".

If I had not got mine late on I'd have been a self indulgent, washed up wreck lying on a beach somewhere drinking down my accumulated wealth.Instead it invigorated me to go to Mach 5 and work even harder etc etc.
I'll just go off and get my medication now if that's ok.

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Anonymous
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March 8, 2013 at 9:58 AM ×

One last unrelated point.

We have been skeptical of late, but the best economist on the street, aka our good old friend EURJPY, has been at it big time again over the past couple of days.

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Anonymous
admin
March 8, 2013 at 10:00 AM ×

C Says
Now I have not managed to get the sell setup I wanted on Uk equity.I doubt having the time (Feb) that I am going to get one worth taking for the mmoment. My reasoning is this. Options expiry coming up will offer protective opportunities. This will be followed fairly quickly by a period when I don't want to be trying to be short which is as the new qtr unfolds AND that coincides this time with the new tax year investment theme for allocating all the bright new shiny ISA contributions.I suspect we'll see a record low take for cash Isa's and given the penchat that people have for following whatver has been working I am guessing the beneficary will be equity risk.That might end up being the "euphoria" surge that results in a worthwhile short setup.

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Anonymous
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March 8, 2013 at 10:57 AM ×

Good post.

The problem is even worse in UK.

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Anonymous
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March 8, 2013 at 12:01 PM ×

Rampagingruss asks:
I thought US mortgages were based of the 30 year bond yield - but you seem to be using the 10yr. Is the 10 year more apprporiate? And what would be the cap on the 30 year in your estimation?

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Leftback
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March 8, 2013 at 12:55 PM ×

The poet Robert Frost once commented on housing, to the extent that "home is the place where, when you go there, they have to let you in". He had it lucky. When it snowed in the winter, Rob would sit by the roaring fire and toast his toes while eating pancakes with maple syrup.

If R Frost lived in New England today he would promptly be given a shovel and told "Robbie, stop watching Bloombags and get out there and shovel and don't even think about stopping until I can get my car out and go to work."

Yes, Rob had it easy. He didn't have to wonder why the US homebuilders keep building homes for a much smaller group of family units than the very large retirement age cohort that is now in the process of selling off its lovely inventory of des res, the raised ranch, the extended Cape or those hideous neo Gothic castle like structures that have nurtured them and their avaricious Boomer consumer lives.

Robbie didn't have to deal with market creep, HFTs, algos, Abenomics, Dr Aghi, QE infinity, Voldemort. He didn't have "cheap" yen calls in his book, that are now being measured in Zimbabwe dollars, and he didn't have to worry about performance benchmarks.

He didn't even have to shovel, other than to get to the woodpile and the barn, nope, he just waited until the whole lot melted down in the Spring, sometimes in just a few short days..... Hmmm.......

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Polemic
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March 8, 2013 at 1:07 PM ×

Rampagningruss,

US mortgages take 30 years to payoff, but there is an embedded prepayment option, which reduces the duration of the loan to something less than 10 years.  So the 10y rate is seen as more appropriate for comparison purposes than the 30y rate.  

 

 

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But What do I Know?
admin
March 8, 2013 at 1:29 PM ×

Declining mortgage rates are great, but in my neck of the woods, any decrease in my "nut" from lower rates in the last four years has been offset by increases in my RE taxes and insurance. . .

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Anonymous
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March 8, 2013 at 1:42 PM ×

Bond massacre. Don't look but they'll soon start looking interesting again.
Also, as good a day as any to take some off these yen shorts, am I right?
DD

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Leftback
admin
March 8, 2013 at 2:02 PM ×

.....and the answer to this month's NFP bingo is +236k. A good day not to be holding long duration USTs, but I agree that the long bond might be an interesting opportunity to look at here.

Market didn't move a great deal, other than rates, which suggests that this was close to the whisper number. In any case, as someone put it yesterday, USD was going to be higher today in any event, on "stronger US fundamentals" (hot number) or "risk aversion" (cold number).

Not getting too excited about this number, we have had these before. There was at least one unexpectedly hot jobs number in the Springs of 2010, 2011 and 2012. But one swallow doesn't make an economic summer.

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Anonymous
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March 8, 2013 at 2:17 PM ×

For bonds, and related to Polemic 1.07, you probably need to wait for the convexity hedgers to panic a bit about their mortgage book duration. Good old seasonality.

DD

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abee crombie
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March 8, 2013 at 2:27 PM ×

dead on with the Fed's cap on interest rates at 3%. The worlds economies (US and China), now more than ever are addicted to low rates.

Who knows what will happen if they ever increase. But at some point they must and it will likely coincide with a broad based general selling of paper currencies. That is still a long way away but it feels like that is what we are leading up to

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Anonymous
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March 8, 2013 at 2:42 PM ×

C says'
"Mr C ...what does this look like"
"A bull market doc,see the brown horns"

"Excuse me, try one which I have not stood my coffee cup on"

"Still a bull market doc,see NFP 400k right there in the middle"

"Excuse me ,try another one that I have not written my income on"

"Still a bull market doc,look at the music notes and the chairs"

"Mr C...I do believe you are right please wait there while I call my broker"

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rp
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March 8, 2013 at 2:45 PM ×

So its pretty much like my forecast from yesterday. What do i win?

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rp
admin
March 8, 2013 at 3:09 PM ×

Look i'm even getting the Reuters man bit right:

UPDATE 2-Traders bet on earlier Fed rate hike, but QE3 stays for now

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Anonymous
admin
March 8, 2013 at 3:57 PM ×

C says
LQD tells' it's story.Any more so called good economic news and it will start another leg down.
HYG/JNK have lagged equity,but I would expect them to turn down with the LQD for the same reason.
Drill down into US Util's rate sensitive and we can see some of these have not been happy for quite sometime.
This isn't 2007 where rates above historic market neutral levels finally put a nail in the coffin for credit costs/asset price ratios.We're clearly in a different worls where prices have already pushed up in the belief that very low rates would make those prices sustainable. I suspect we're seeing the beginning of the reason why all asset groups will react strongly to rate expectations well before the current market thinks.
Comment of the day was numbers fortell a higher price future. No,not really they foretell that increasing good economic data is much more likely to cap gains to equity risk exposure.

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VandalsStoleMyHandle
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March 8, 2013 at 5:27 PM ×

All good points, but isn't the bigger issue that the Treasury will have trouble making the nut if rates rise, esp as they've become addicted to the teaser rates on offer at the short end these last few years. With fiscal and monetary policy now joined at the hip, this, rather more than the consumer story, seemingly sets the stage for an extended period of repression, ie QE4eva.

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Leftback
admin
March 8, 2013 at 6:11 PM ×

Well done, rp. It's almost as though you had read the script.

Vandals has it 100% right. Financial repression is here to stay, folks. Let's examine the reasons:

A normal economic recovery, with the 10y going to 4.00% fairly sharpish and then the front end joining it gradually over several months is not going to happen. Why not? Because the yield spike and bond market disruption would quickly bankrupt the FED and the US Treasury, and the fleeing Chinese and Japanese money would then drag down the USD, leading to a disaster of epic proportions.

Let's look at the Japanese experience. Once you enter ZIRP, normal economic cycles are suspended, in part b/c the worst effects of real recessions, i.e. credit crunch and deflation are alleviated by low rates and QE. Instead of the normal business cycle we see this replaced by economic mini-cycles, in which mild recessionary episodes (-0.5% to -1%) are interrupted by "recovery" (2.5% at most), but the economy never reaches the 4% growth required for escape velocity. As each cycle unfolds, the peak rate at the long end of the YC has been lower than it was in the preceding cycle.

In 2010, the US 10y was about 4.00% at peak. The 2011 peak was 3.75%, and 2012 was 2.40%. There is a gap in the TNX chart up to the 2.15%-2.20% area, and we do not expect to see that level exceeded. In fact, we now see major credit market players acting as though it is almost safe to move into the long end of the curve in the weeks (and auctions) ahead.

If the Japanese model holds, and the QE dynamics suggest that it will, then the next low for US TNX will be lower than 2012's 1.4%. Don't believe me? Well, the JGB 10y is currently hovering between 0.60 and 0.70%, so precedents exist.

Equities are hard to predict, especially the timing, but at some point will come the realization that 4% growth isn't coming, and slower growth means that earnings will disappoint. Once that fact starts to hit home, along with a stagnant jobs picture, the "housing recovery miracle" is going to tank on slack demand (Exhibit A: Tokyo area property market, 1980-2000), and by then Mr Market will start to price in the fact that a mini-recession might already have been upon us for a few months. In fact, commodity prices are already showing us that there is no global recovery.

The result of the next downturn will be very low UST yields, as hot money flees emerging markets and commodity currencies, and the nascent USD rally causes a meltdown in dollar denominated debt around the world. The USD surge is then amplified by a Flight to Quality in USD and Treasuries. USD is taking over from JPY as the strong world currency once more, but JPY will benefit from risk aversion in Asia.

EURUSD will probably drift lower on continued economic stagnation, perhaps as far as 1,00-1,10, bad for foreign holders of EU stocks, but highly advantageous to the downtrodden people and economies of the Southern EU countries.

The winners of this scenario will be the FED, the Chinese (owners of Treasuries at lower prices), and those with the sense to move into dollars and credit-worthy dollar-denominated vehicles.

The losers, as usual, will be the late arrivals at the Spoos Hotel, the hopeful, the optimists, and the most stubborn and greedy among the highly leveraged institutional players, once again caught swimming naked when the tide goes out.

As Cole Porter would have put it: "It was great fun, but it was just One Of Those Things".

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Saeed Zia
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March 8, 2013 at 6:44 PM ×

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Leftback
admin
March 8, 2013 at 8:46 PM ×

From Ritholtz yesterday, 29 of 41 countries are already in recession:

Global Growth Data

The money quote is in his blog article,

World Is Already In A Recession

"In fact, markets correct before official recessions, primarily because contractions typically show up in EARNINGS long before they do in the economic data"

But I would correct this to read "before recessions are recognized and officially designated", which often occurs 6-12 months after the fact. . . .

We may not see the evidence clearly until the April-June earnings season, but there seems to be a trend within the current earnings season, that fewer and fewer of the earnings beat expectations substantially as time progressed.

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boo boo bear
admin
March 8, 2013 at 8:52 PM ×

Spagh-ett-ios

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Leftback
admin
March 8, 2013 at 9:07 PM ×

LB is a housing bear, mainly b/c of demographic factors that have not gone away and that can't be altered, and partly b/c we can't believe much of the data the industry shovels out. Q: "How can you tell when NAR spokesman Lawrence Yun is lying?" A: "Is he dead yet?".

Whatever the NAR may say, US housing market cannot be saved by hedge funds, "investors", "new household formation" or "the foreign buyer" (outside of a few fancy condos in Miami and Manhattan). The same is true in the UK. Just as in Tokyo, 1990s, the retirement of the boomers is going to crush recent buyers with an avalanche of supply.

In fact, there is some evidence that "spec" buyers and hedge funds are already contributing to a large abundance of supply in the rental markets in the former bubble cities in Florida, Vegas, Phoenix and parts of California. Here are a few thoughts on what is happening out there, from Mark Hanson:

Rental Supply Glut in Phoenix

Some investors are going to find out that if they buy a dogshit property in a depressed area with high unemployment, rental income may be a big disappointment unless they put in a significant sum to upgrade the property, thereby cutting into their profits.

The NAR likes to talk about Demand a lot. But the real problem remains Supply. NAR can report price rises b/c a few of the glut of former jumbo mortgage properties have been sold recently, and b/c the very bottom of the market has risen slightly.

The real estate industry and the banks may have managed to suppress the numbers on housing inventory of late, but a lot of this is creative accounting. Supply is out there, even though some of it is hidden in compartments like "rental" "off the market (unoccupied, owner very depressed)" or "available for rent", and these waves and waves of supply are going to keep coming on to the market as Boomers retire and expire.....

Watch this year's revival fade like the others.

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Leftback
admin
March 8, 2013 at 9:18 PM ×

Another interesting piece of data that not many noticed during today's BLS euphoria. Wholesale inventories rose 1.2% in January. A sharp rise in the inventory to sales ratio to 1.21 is the result. Watch this one closely in light of the comments from Walmart about slack demand. This is one of those statistics that always shows up in early stages of a recession. Businesses respond quickly to rising inventory by reducing orders, usually within 1-2 months.

From Bloombags:

Soft sales drove up inventories in the wholesale sector during January. Wholesale inventories rose 1.2 percent against a 0.8 percent decline in wholesale sales, a mismatch that drives the sector's stock-to-sales ratio up to 1.21 vs 1.19 for the highest reading since October. Taken out to three decimals, January's ratio is the highest of the recovery. The build is spread widely across the sector including lumber and computer equipment and a small build for autos.

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Leftback
admin
March 8, 2013 at 9:27 PM ×

Another independent source on the huge number of distressed sales still out there in Phoenix, Cleveland, Las Vegas, Charlotte etc...

5 Cities Where Houses Are Cheap (i.e. Plenty Of Supply!)

It is already Spring in most of the former bubble states and not far away in the rest of the nation. That means a lot more signs are going to start appearing by the side of the road....

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abee crombie
admin
March 8, 2013 at 11:41 PM ×

Lb I have to disagree on housing. In nice neighbourhoods there is no supply. But I will concede that those paying for rentals in dogshit places are going to take a while to see a recovery given high unemployment. But remember the US is a 2 tiered state.. the rich ppl are doing well and property is cheap, in demand

Location, location, location

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Anonymous
admin
March 9, 2013 at 2:51 AM ×

There are individual investors who bought in the sunbelt for gross rents as high as 40%. One would think the hedge funds did as well, and if so they will likely beat my returns the next few years. Midtown Atlanta condos in the 200's to 500's are getting harder to find. They have broken ground on four new million plus houses near me, (please no more gothic castles) and as AC mentions above there is nothing in this neighborhood on the market. LB, I hear drumbeats.

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Anonymous
admin
March 9, 2013 at 7:28 AM ×

The devil's in the details, and your footnote assumes that people keep on dying on time. They won't in the very near future - average age will be well over 150 years within two generations. The old will literally starve the young, and there'll be a hell of a fight over it.

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Anonymous
admin
March 9, 2013 at 10:44 AM ×

C Says
Abee,
you are absolutely right. There are many micro stories out there.
For example;why is Florida lagging a recovery?Come on,it's not that hard to work out.
Scale of recovery is open to question,but ongoing policy is supportive of a recovery even if transpires to be more modest and gradual than Industry noise would wish you to believe.
US property isn't Japan I can tell you that much.You use that as soe form of anology and you'll be well off the mark.

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Anonymous
admin
March 9, 2013 at 10:51 AM ×

C says
Long term picture unfolding thoughts. How much of US economic history is owed to being the global policeman with costs theirin of protecting an energy supply largely Middle East based?

How much vested interest does the US have today in maintaining that role with all that it costs to do so?
Speculating,what sort of future could we contemplate if the US became more domestically focussed,more concerned with expending it's economic efforts domestically? Remembering of course we are seeing substantial shifts already in it's investment in domestic energy resources.

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Anonymous
admin
March 9, 2013 at 10:54 AM ×

In essence I am suggesting that over time much of the depreciation in dollar purchasing powerr may have been attributable to their global role.In effect a swap of same for Middle East energy.
Arans going cheap anyone?

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Leftback
admin
March 10, 2013 at 12:15 AM ×

Let' try to be data-driven shall we? Strong dollar, falling commodity prices, and then there is this:

http://research.stlouisfed.org/fred2/series/M2V/

Is this a recovery, chaps? M2V is falling rapidly. This often occurs just before the beginning of a recession. That reflects the nervousness of blue collar middle America, where most people live, and where most of the economy occurs.

But who needs data when you can just look at the happy clappy people on TV with the Dow 14k hats, listen to the guys who just made it back to their 2007 level in the 401k, and think about that wealthy suburb where they are building new McMansions. Stay in the bubble, where the Spoos go up 5 handles every day and all future earnings are better than expected.....

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tahir sumar
admin
March 10, 2013 at 3:24 PM ×

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Anonymous
admin
March 10, 2013 at 7:36 PM ×

LB,
M2V is perfectly correlated with the increase in federal deficits over the last decade. That may be all its saying. Falling Obama poll numbers=compromise=strong dollar=falling commodity prices=maybe actual progress toward debt reduction=higher future M2V?

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Anonymous
admin
March 10, 2013 at 7:48 PM ×

And also LB " blue collar America...where most of the economy occurs". Really? Data please.

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Anonymous
admin
March 11, 2013 at 8:04 AM ×

Something a little more long-term but interesting nonetheless.

Hussman: Two Myths and a Legend

Eddie

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Leftback
admin
March 11, 2013 at 5:31 PM ×

Indicator Monitoring Time on another dull Monday.

LB baiting is definitely on the up. Well-to-do and hermetically sealed US neighborhood real estate chatter is up. Daffodils are up. "The market" is up. Yields are up, well a bit, I suppose. Surely, Gary the Angry, an Important portfolio manager, will be back at any moment to berate LB and Bill Gross and Jeff Gundlach or anyone else who likes Treasuries, or who ever did, at any time....

Yes, the SPX is up. But Dr Copper, not so much. This happens, we are told, b/c "roro" is dead, and so FX correlations decline and we are now in a "whole new investing paradigm" as the "stock market reaches a permanently high plateau". [Insert your own favorites here].

Copper Decouples From Spoos

Commodity stockpiles are big and they are growing. Nice graph here of the ratio of SPX to the commodities index:

SPX v S&P Commodity Index

This isn't the stuff of an overheated global economy, we are not looking at a HOT TOP like 2007-2008. We are looking at the end of a COOL-AID rally, as global growth cools, thereby ending a QE-modified economic mini-cycle that has been sustained by IV liquidity.

How can this happen, in the face of QE infinity? Simple. Demand for goods and materials is low. In the US, and especially around the world. You can mine it, make it, market it, Like it on Facebook, and tweet about it – but if you can’t sell it, inventories will grow (already seen in commodities, coming soon if not as we speak to US retailers) and sooner or later you will cut production (already going on in China, and coming to a factory near you soon). Banks will begin to tighten credit to business at this time, credit spreads will widen and other loans will become more difficult to obtain. Manufacturerd will idle machinery and lay off workers. This is what happens in any business cycle, and it is also why employment measures are the last sign of what is going on in the economy.

As for the impact of the Sequester, it's only 0.5% of GDP we are told. But more people work directly or indirectly for government than is appreciated. All of these folks have some experience of furloughs and government shutdowns, and they are all saving and not spending a dime right now. We will see that show up in the US economy very soon. It isn’t the austerity itself that hurts the economy, as much as the anticipation of cuts, and then there all the secondary businesses that are hurt as a consequence. Now think about an economy that was sputtering along at 0.4% or so, and subtract 0.5% and what do you have?

A very very angry and vindicated Mr Achuthan?

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Anonymous
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March 11, 2013 at 6:45 PM ×

For those of you who believe the income theme is not dead, just resting, there is some good downward action in the muni stuff (retail rotating to stocks I suppose).

Good bargains to be had especially if this follows through to the seasonal ex dividend swoon.

DD

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Leftback
admin
March 11, 2013 at 7:45 PM ×

Bloody hell, volume just completely disappearing and the VIX under 12, at a 5 year low.... SPX closing in on all time highs. What could possibly go wrong?

Time to grab some protection. Fill yer Boots...!!!

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Anonymous
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March 12, 2013 at 1:43 AM ×

The Bill Gross top? LOL. You can take the boy out of the surf, but not the surf out of the boy.

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Anonymous
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March 12, 2013 at 4:05 AM ×

1) the vix is being extrapolated, it aims for a 30d maturity, but also uses the two front months of sp&500 options

2) skew is not necessarily cheap when normalized to atm vol level

3) BRIC+SAfrica looking shaky, each in their uniquely unhappy way

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Rehan Ahmed
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March 12, 2013 at 4:14 AM ×

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ProBux.com

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Anonymous
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March 12, 2013 at 8:22 AM ×

C Says
LB be comforted.Shanghai already believes you and given that exchange was the so called ignition flame for the "China recovery" it's already spluttering.
Given I don't really believe in decoupling,just lagging, I expect at some point this will be reflected across the region and then across the Pacific etc etc.

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Anonymous
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March 12, 2013 at 10:03 AM ×

C says
So much for my GBP outlook.A salutory reminder why initial positions are the way to go!

Saying that I am not impressed by the so called fundamental story, although the mom story is undeniable.
What was always clear to me was that Uk gilts and sterling attraction were symbiotic to Euopean woes. The worst the latter,the better the former became. Hence,it was always also clear to me that the market would be quick to change it's target when sentiment changed.
Where i disagree fundmentally here is that the UK is somehow worse than Europe going forwards,but that's a disagreement to put money on when the mom story has completed it's unfolding.


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Anonymous
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March 12, 2013 at 11:22 AM ×

C Says
This is the market !

"Shares in the FTSE 100 miner jumped 5pc as it recommend a 90 cents a share final dividend, amounting to $887.3m - of which the controlling Luksic family will receive around $530m.
The payout is made up of a 12.5 cents final dividend and 77.5 cents special dividend, up from 36 cents the previous year and giving a total dividend for the year of 98.5 cents payable on June 13.
Antofagasta reported an 11pc rise in revenue to $6.74bn, although profits fell from $3.08bn to $2.75bn after a 10pc fall in average copper prices over the year and a $500m impairment relating to its Antucoya mine."

To summarise this business sold more product and made less money from it than previously.However, the business hikes the divi which en masse accrues to the 'insider entity',but obviously makes that business that much 'cash' weaker. However, this 'swap' which basically prifts the 'insider entity' the most is seen as rational to improve the stock price by nearly 5%.
I can only stand in awe of an education system that turns out people with such sharp economic insight.

There's a sound reason why i do not like my money incompanies with majority family controlling interests.

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Anonymous
admin
March 12, 2013 at 1:29 PM ×

Always remember:

Whether the market goes up or down is a matter of whether there are more idiots than stocks or vice versa.

Eddie

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Leftback
admin
March 12, 2013 at 2:31 PM ×

The last few days there is an explosion of this kind of stuff in the media:

Jeremy Siegel Dow 18,000

A few people we know who wouldn't touch stocks during "Europanique 2012: Les Investuers Miserables" and "The Cliff: A Fiscal Pantomime" are getting itchy feet and want to "get back in" b/c of "the recovery" and b/c "the improving economy" will "kill bonds" and b/c they want to "get more yield".

Alarm bells....

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Leftback
admin
March 12, 2013 at 2:43 PM ×

LB loves the way the media trumpet Bill Gross' "latest moves" by saying "PIMCO sold Treasuries in February". Maybe so, but that was 2-3 weeks back, which is eons ago. I bet they were buying on Friday, after the 10y spiked on the jobs report.

A common misunderstanding among the populace, which is fostered by the media, is that there is always either "bonds" or "stocks". So money can only flow from bonds into equities. What they fail to mention is that the credit markets are huge and most of the flows are internal, which is to say, the vast majority of the money stays in the credit markets and flows between the higher risk (US junk bond, dodgy EM credit and lower-rated sovereigns) and lower risk pools (US Treasuries and German bunds, etc...)

It's been a long time since we saw the effects on the capital markets of wider US credit spreads, and when it happens a lot of people who should know better will act surprised. People are looking for the wrong bond market bubble. The bubble isn't in Treasuries, it is in junk.

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Anonymous
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March 12, 2013 at 3:13 PM ×

C says
Yes,I see a junk a loser whichever way we go from here,at least immediately. That is,were bond yileds to rise they reduce the spread with junk making it look even less attractive in risk adj. If we get a decent risk sell off in equity it's highly likely to be interpreted as an increase in default risk so junk looks and follows equity...etc etc.
Why I exited whilst I thought there was still seemingly enough ready buyers out there. All I kept was some very short maturity stuff.

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Leftback
admin
March 12, 2013 at 3:57 PM ×

Another bad day for Betty, and is it just me or are yields diving a bit in US, Germany and the UK?

Usually when yields crash in the middle of the trading day, it's either a POMO (10-11am) or "something just happened" in a credit market somewhere in the world.

Probably nothing. Market Going Up Forever. JBTFD*

* engage irony detector.

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Anonymous
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March 13, 2013 at 8:27 AM ×

We have discussed them here before but worth repeating how strong UK linkers have been this year (true there was event risk but still).

Now front and center in the mainstream press ("infl exp at 2008 levels!!" yada yada yada), it looks like expectations in Carney are well on their way to Eriksson-Capello-Osario levels, to name only three highly touted, but ultimately disappointing (vs. unrealistic hopes) high profile foreigners hires.

DD

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Anonymous
admin
March 13, 2013 at 8:52 AM ×

Also, agreed with HY points above. Long dated non callables should work well from the short side if you have a 2-3yr horizon.

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March 13, 2013 at 3:25 PM ×

Now, we are obviously talking our book here, but it sounds to us that there is a not unreasonable case to be made that we need less rent and more activity/investment, and that fiscal incentives should be geared towards that goal.

Media Monitoring

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March 17, 2013 at 9:12 PM ×

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March 21, 2013 at 4:04 PM ×

Really interesting post, thanks for sharing it.

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