Senate Results Have Yields Moving Higher
The results of the twin Senate runoffs in Georgia were as close as advertised but Democrat Rev. Raphael Warnock has been declared the winner in his race while Democrat Jon Ossoff is leading by 16,000 votes in his race with 98% of the vote counted. His lead over David Perdue is less than 0.5% so that will lead to an automatic recount if the lead holds and there could be other challenges as well. Thus, the final result will not be forthcoming probably for several days, but if the current standings hold President-elect Biden will have a unified Congress which will give him a freer hand in adding to fiscal stimulus (see our discussion below of the Heroes Act), and that has Treasury yields pushing higher. The 10-year yield got as high as 1.03% in the early morning hours but is back to 1.01% presently. Finally, in this week’s podcast we take a look back at some of our favorite moments and guests in 2020. Think of the episode as a Cliffs Notes version from 22 episodes. The itunes link can be found here and the Spotify link here.
In the final week of 2021, the Heroes Act (or Stimulus 2.0) became law, but with holidays it probably didn’t get your full attention so we thought we would review some of the major provisions of the bill, and more importantly what impact it may have on your bank as the programs work their way through the economy in early 2021. First, the bill’s size at roughly $900 billion is less than half the $2.1 trillion budgeted in the CARES Act. Most of the major programs are generally half that of the CARES Act as well. Stimulus checks are cut from $1,200 to $600 per person; federal unemployment benefits cut from $600 to $300 per person, with coverage lasting 11 weeks versus 16 weeks last year; PPP program cut to $325 billion versus $659 billion in the CARES Act. Two items added in this bill that were not part of the CARES Act are: (1) $82 billion to fund public school reopening, and (2) $69 billion for vaccine acquisition, distribution, and additional testing, tracing and training.
For banks, the obvious issue is the new round of PPP lending and the impact that will have on bank resources. Chris Nichols wrote a great piece on how to handle the logistical issues in dealing not only with new PPP lending but handling loan forgiveness on the first round of PPP lending. You can find that piece here. While that article lays out some of the operational challenges and methods to address those challenges, we want to address some of the ancillary issues that spin-off not only from the PPP program but the other funding sources from the Heroes Act that may find their way into your bank.
Suffice it to say, the increase in liquidity you experienced in the aftermath of the CARES Act you can expect at least half of that, if not more, from the Heroes Act. As we discussed above, funding from the new programs is about half the CARES Act levels but consider too you will be receiving forgiveness proceeds from the original CARES Act PPP loans as they are processed through the SBA. That will add to liquidity generated by the new Heroes Act programs.
So, if you thought you had boatloads of liquidity in 2020 you will likely have a similar problem this year. As to what to do with that liquidity, lending opportunities away from PPP loans will likely see a slow start to 2021 but as vaccinations work through the populace we expect your regular lending programs to build through the year, so consider the liquidity needs there. Also, residential lending is likely to continue strong so consider the needs for those loans you decide to keep on balance sheet. In the end, there will inevitably be excess liquidity for investments. The Fed will be on the sidelines again this year so don’t look for any movement in the fed funds rate. Also, with the Fed’s QE program going full bore, and with the possibility of extending durations on purchases, we see only a limited uptick in longer-term yields. The Bloomberg consensus for year-end 2021 is for the 10-year Treasury to reach 1.24%. Thus, we think longer duration purchases can still be made this year without major concerns for a material lift in yields. The idea of getting more than 10bps from fed funds will likely prevail again. So, hold your nose, jump in and buy, your net interest margin will thank you.
December ISM Manufacturing Near Two-Year High
Along with residential real estate manufacturing has weathered the pandemic as the task of manufacturing can be done in a socially distanced manner unlike more service-related sectors and that showed up again in yesterday’s ISM Manufacturing Index for December. The index soared to a near two-year high hitting 60.7 versus expectations of 56.8 and 57.5 in November. Readings above 50 indicate an expanding sector, and by closing in on levels last seen in August 2008 there appears to be no quit in the manufacturing sector despite the increasing virus cases. Sixteen of 18 manufacturing industries reported growth led by apparel, furniture, wood products and fabricated metals.
While the manufacturing sector represents about 10% of the overall economy, strength here usually spills into the services sector through sales activity and optimistic workers with fat wallets. To wit, the employment gauge rose to 51.5 which is only the second time since mid-2019 the index has indicated expansion. Also, the New Orders gauge at 67.9 matched the strongest reading since 2004 and that should bode well for activity in future months. Lean inventories are behind much of the strength here as distributors and wholesalers face rising demand for their goods. In all, an unabashedly good report that should restoke a risk-on mood on Wall Street.
Agency Indications — FNMA / FHLMC Callable Rates
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