Radio Silence

With the Fed in radio silence until next week’s FOMC meeting, and with a skinny and second-tier slate of economic releases this week, the market is left to drift a bit and stay close to established ranges for now. The Fed meeting next week, first quarter GDP, and durable goods numbers will wake investors from their slumber with the possibility to test those ranges. One sector of the economy that has performed well since the early days of the pandemic has been housing so we look below at how the increase in lumber prices and mortgage rates could upset the momentum in that critical sector.   Finally, in our latest podcast we sit down with Dan Duchnowski, Chief Marketing Officer with Planters First Bank in Perry, Georgia to discuss how the pandemic has forced community banks to change the way they approach marketing and digital banking.  The iTunes link can be found here and the Spotify link here.

 

 


Will Lumber Prices Splinter the Housing Market?

One of the forces that helped send yields climbing since August has been the fear of inflation sweeping into the system given all the fiscal and monetary stimulus and spreading vaccinations aiding a recovering economy. One sector that has been red-hot since the earliest days after the initial lockdowns has been the residential real estate market. Both existing and new home sales seem to have been limited only by a lack of supply. The supply issue is even more acute in the new home category as lumber prices have surged in response to soaring demand. The graph below shows the spread between futures pricing and the spot price of lumber as builders bet that demand will remain strong.

 

 

This is a good example of price spikes that the Fed believes will be temporary in nature and as such may not bring much concern in the halls of the Marriner Eccles Building. The issue now though is the current price spike has easily exceeded past episodes, most recently the 2018 event when futures prices rose to just above $440 per 1,000 board feet. Thus, either builders will have to eat some profits and/or raise prices and we’ve already seen home price increases in some cases nose over 10% year-over-year. Will this next round of price hikes be enough to slow the residential train? In a perverse way that maybe something the Fed wouldn’t mind seeing before appreciation rates approach levels last seen in the housing bubble when they peaked at 15+%.


Refinance Activity Comes Off The Boil As Mortgage Rates Rise

Last year mortgage investors had one risk above all others and that was mitigating prepayments as rates fell at the outset of the pandemic and homeowners rushed to refinance into cheaper mortgages. Since August, however, rates have been moving higher and in early 2021 that increase accelerated bringing 30-year mortgage rates off the low of 2.82% in early 2021 to 3.34% in March and currently at 3.11%.

 

Source: Bloomberg

That increase in mortgage rates, while still low by historical standards, did put a dent in the refinance activity. If you study the graph, you see a spike in refi’s when the 30-year touched its low yield with refi’s approaching the spike experienced early in the pandemic when rates initially plunged. To be fair, while refi activity has slowed from those twin spike periods it remains well above 2019 levels meaning existing mortgage investors are likely to continue to see moderately strong prepayments but not the extreme speeds brought on by those two spike refi events. When you look at the recent history of the 30-year mortgage rate, there almost certainly are borrowers from 2018, 2019, and 2020 vintages that still have incentive to refinance. If they are financially able to do so is another question. So, unless mortgage rates move materially higher from here, you can expect to see prepayments continue on the strong side but not at the extremes that were recently experienced.


Agency Indications — FNMA / FHLMC Callable Rates

Maturity (yrs) 2 Year 3 Year 4 Year 5 Year 10 Year 15 Year
0.25 0.11 0.33 0.65 1.03 2.05 2.51
0.50 0.10 0.30 0.59 0.92 1.91 2.40
1.00 0.09 0.27 0.56 0.87 1.82 2.27
2.00 0.26 0.50 0.80 1.70 NA
3.00 0.75 1.64 NA
4.00 1.59 NA
5.00 1.55 NA
10.00 NA

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Published: 04/21/21 Author: Thomas R. Fitzgerald