THE BASIS POINT

WeeklyBasis 12/3: Rates Will Rise Unless EU Leaders Blow It

Rates ended even last week, holding near record lows for the second week in a row: 30yr loans to $417k are 3.875%. Below I recap last week’s markets and preview what’s coming. And if you’re looking for a special drink to try at your holiday parties, my favorite elixir right now is Rebreast, a super smooth Irish whiskey. Order it neat or with a couple cubes. Cheers.

Also, here are the most current loan limits for 1-4 unit properties and rate spreads between loan tiers.

RECAP NOVEMBER 28 – DECEMBER 2 MARKET WEEK
New Home Sales Up But: Sales were up 1.3% for October and up 8.9% since October 2010. Median prices were down to 212,300, and average sale price was 242,300. This chart shows a slog on the bottom for national sales. Local analysis is critical for buyer and seller decision making.

Home Prices Down. What To Do?: Case Shiller’s September report showed home prices across 20 major U.S. metro areas were down 0.6% since August, breaking a (rather weak) five-month ’20-City’ gain streak. Prices are down 3.6% since September 2010, and home prices are still down drastically from 2006 highs and now at 2003 levels. Here’s a must-read on how to make property decisions in a market like this.

Manufacturing Improving: The Institute for Supply Management manufacturing index was 52.7 in November vs. 50.8 for October. Good news: 28 months of growth, and November was 5 month high. Bad news: growth is slim. For this index, 50 is dividing line between expansion and contraction.

Jobs Less Rosy Than Headlines: Unemployment dropped to 8.6% from 9% according to the BLS jobs report’s ‘Household Survey’ which counts people. Much of this decline was from people leaving the workforce. A different part of the jobs report called the ‘Establishment Survey’ doesn’t count actual people, it counts how many companies opened or closed, then uses that data to estimate the number of jobs gained or lost. This showed that the economy added 120k non-farm payrolls in November, plus October was revised from 80k to 100k and September was revised from 158k to 210k. It’s ok, but the economy still has 6.2m fewer jobs than when the recession began in December 2007.

PREVIEW DECEMBER 5-9 MARKET WEEK
Next week’s economic calendar is very light. Below are highlights and rate impacts.

All Eyes On Jobless Claims:The most market relevant data for the week is the normal weekly release of jobless claims on Thursday. Last week, claims were 402k, up after dropping four weeks. The drop is evident in last week’s 4-week moving average of 395,750. Claims below 400k signal an improving jobs picture, so this number will be closely watched. Rates even to up.

Consumer Sentiment: Overrated: The University of Michigan Consumer Sentiment Index is released Friday. The most recent November reading of 64.1 was the strongest since June, but this number isn’t accurate in predicting consumer spending and doesn’t really move markets. It’s mostly chatter. I note it here so people know that these headlines don’t matter as much.

Huge Europe Week: A Thursday/Friday summit of EU leaders to fine-tune proposals to manage their debt crisis will be preceded by several key events: New Italian prime minister Mario Monti rolls out his economic plan for the world’s third largest debtor nation Monday. Also Monday German chancellor Angela Merkel and French president Nicolas Sarkozy meet to plan the summit. And U.S. Treasury Secretary Timothy Geithner will be meeting with European Central Bank head Mario Draghi plus several other Eurozone leaders leading up to the summit. This will continue the tone of progress (and stock rally) that began last week after the Fed, ECB and four other central banks agreed to cut dollar costs to help the EU.

Technical Trading Factors: Looking at stocks, the S&P 500 closed last week at at 1244, up 7.38% and the 13th week in history where the S&P gained more than 7% according to Bespoke Investment Group. The S&P is now within striking distance of its 200-day moving average of 1265, aided by improving economic data and EU progress. As for mortgage bonds (MBS), rates rise when MBS sell, and there was a consistent theme all last week: mortgages sold sharply right after better economic releases and EU aid news, then recovered. The 3.5% Fannie Mae coupon—a key benchmark lenders use to price consumer rates—were incredibly resilient amidst the stock rally, and are now just above at the 25 and 50 day moving averages.

Bottom Line For Rates: My outlook for rates ‘even to up slightly’ held as rates were unchanged last week. Volatility reigns so here’s how to lock a rate. As for next week, factors discussed above suggest rates could rise slightly, mostly because of perceived progress in Europe. But we’re still at lows and a big reason MBS have been so resilient is because trader rumors persist about the Fed buying $545b in mortgage bonds with a QE3 round to be announced in 1Q2011. I don’t see a rate spike near-term, but slightly higher seems probable next week unless EU leaders truly blow it.