THE BASIS POINT

WeeklyBasis 8/28/10: Is Economy Weak Enough For Rates To Go Even Lower?

Jumpy Rate Market Response To GDP & Home Sales Reports
Rates dropped 0.2% early last week then rose Friday to end the week even. The $109b in Treasury auctions throughout last week caused mortgage bonds to sell off slightly, and July’s record low New Home Sales (down 32.4% year-over-year) and Existing Home Sales (down 25.5% year-over-year) helped mortgages rally— rates rise on bond selloffs and drop on rallies. But then two factors caused a huge 59 basis point selloff Friday:

(1) The second of three 2Q2010 GDP readings showed the economy grew at 1.6% versus expectations of 1.4%. This was a big drop from both the first 2Q reading of 2.4% and the final 1Q reading of 3.7%. Normally economic weakness of this magnitude would cause a mortgage bond rally, bringing rates down. But the opposite happened because traders didn’t think the 1.6% number was weak enough.

(2) St. Louis Fed President and voting FOMC member James Bullard told CNBC that he thinks the Fed has “done as much as we’re going to do” in supporting the mortgage bond market. Remember: the Fed bought $1.25 trillion in mortgage bonds from January 2009 to March 2010, which has been the largest contributor to low rates since credit markets froze in 2007. Mortgage traders take Bullard’s comments seriously because, until now, Kansas City Fed president Thomas Hoenig has been the only FOMC member voting for tighter rate policies.

Rate Factors Week of August 30
Next week is packed with data: July consumer inflation, income and spending Monday; June S&P Case Shiller Home Prices, consumer confidence, and minutes from the August 10 Fed meeting Tuesday; payroll provider ADP’s jobs report Wednesday; June Pending Home Sales from the NAR Thursday; and the critical August BLS jobs report Friday.

After last week’s report that June-to-July Existing Homes Sales were down 27.2%, Robert Shiller (co-creator of the Case Shiller Home Price Index) said “this was the recording the month after the original closing deadline for the [homebuyer] tax credit, so it’s an anomalous month, but I do think that opinions about the market are weakening, and it may result in another decline in home prices going forward.”

Given the weight markets put on his Case Shiller Home Price Index, this Tuesday’s number should move mortgage bonds more than normal. As for Friday’s jobs report, estimates call for 105k job losses in August.

Weaker figures on next week’s data would normally help rates drop. But last week’s mortgage bond market reaction to the GDP figure shouldn’t be ignored: it was a very weak number but not weak enough in the mortgage traders’ eyes, so rates actually rose. Same goes for all data next week.

As discussed in the previous two WeeklyBasis reports (1, 2), mortgage bonds are overbought, very jumpy, and looking for any little reason to sell off—which would push rates up.

CONFORMING RATES ($200,000 – $417,000) – 0 POINT
30 Year: 4.375% (4.49% APR)
FHA 30 Year: 4.375% (4.50% APR)
5/1 ARM: 3.25% (3.37% APR)

SUPER-CONFORMING RATES ($417,001 to $729,750 cap by county) – 0 POINT
30 Year: 4.75% (4.87% APR)
FHA 30 Year: 4.5% (4.62% APR)
5/1 ARM: 3.75% (3.87% APR)

JUMBO RATES ($729,751 – $2,00,000) – 1 POINT
30 Year: 5.125% (5.24% APR)
5/1 ARM: 3.875% (3.99% APR)