Market Update 10 29 09: We got the car moving but we're a long way from home

 

On the economy

 

After 4 Quarters of negative growth we got a 3^rd Quarter GDP figure that posted positive…and it beat the estimates.  The Bloomberg survey expected GDP to increase at a 3.2% rate on a quarter-over-quarter basis and the actual number was 3.5%.  Treasury prices are retreating on the news, pushing yields a bit higher across the length of the curve but so far this is a very measured pullback.  The 10-year Treasury is trading at a 3.46%...about 10 basis points below the high water mark that it hit earlier this week.  The number is being treated with a healthy (and well deserved) amount of caution rather than as a sign that this economy is off to the races. 

 

While positive GDP is always a welcome sight, this number hardly means we are back on the road to prosperity.  After our economic engine sputtered and then stalled, the government pulled out their stimulus jumper cables in an attempt to force a restart.  Government spending is largely responsible for the increase in the 3Q GDP number.  We saw the cash-for-clunkers program and the new-home-buyers credit among other things that subsidized activity into happening.  The question now centers on whether this recovery is sustainable without more government spending…can they put the jumper cables away and let us get this thing back on the road under its own power?  Based on the numbers I’m seeing I would guess that it is nowhere close to sustainable at this point. 

 

I would suspect that they know it too.  Congress just extended the first-time-home-buyer program…not a sign that the recovery is off and running under its own power.  Those that are forecasting a double-dip recession are going to be on the edge of their seats over the next few months as this GDP number provides a real cliff-hanger moment for them.  If we can generate positive GDP numbers that aren’t propped up by government spending and we see the number of initial jobless claims fall off dramatically then I will get excited about seeing a real “honest-to-goodness-consumers-in-the-streets-with-fist-fulls-of-cash” recovery…I don’t think anybody is putting the jumper cables away until that starts to materialize.

 

In the mean-time you still have highly leveraged consumers who are very concerned about keeping their jobs and homes.  I wrote about the behavioral effects of this psychology last week.  Fear changes behavior.  It would seem at this point that personal savings rates should at least continue at their current levels and likely increase.  This is a necessary and positive thing but the flip side is that a dollar saved is a dollar that is not spent. 

 

On jobs

 

There are still close to 6 million people on the “official” unemployment rolls.  This doesn’t count the impact of workers who have run out of benefits and are no longer on the rolls, who have become discouraged and quit looking for work, full time workers who have been forced to work part time, or workers that were forced to take pay cuts to keep their jobs.  3.5% GDP growth isn’t enough activity to put this number of people back to work anytime soon.

 

One factor that will muddy the waters on the jobs front in any recovery is that there are many workers who have been forced from full-time position to part-time positions.  This situation will likely be reversed before any new hiring is done.  As the economy begins to recover businesses will ramp up production using what is basically idle “human capacity”…bringing part-time workers back to full time status.  There is no need to hire new people until you have enough work for the guys that were forced into part-time status.  This is but one factor that will slow our return to “full employment” when the economy begins to recover.  Again this points to the need for something much more robust than a 3.5% growth rate for us to return to full employment. 

 

To provide some perspective it helps to note that many firms are forecasting that we won’t return to “full employment” until sometime in 2013.

 

On The Fed

 

Today is officially the last day of the Feds $300 billion Treasury repurchase program.  This program has been one leg of their effort to keep rates artificially low to help stimulate the economy.  The idea here was that if you force Treasury yields lower you will lower loan rates, making credit more accessible to borrowers.  This was done in conjunction with the $1.25 trillion MBS and Agency purchase program which aimed to crush mortgage spreads…which it did.  The combination of the two programs was aimed at reducing mortgage rates.  Lower mortgage rates would help stimulate the housing market and the broader economy in general.  The thoughts at the start were that this would support housing prices by making loans more affordable to new buyers, enable people to refi into lower cost mortgages (and have extra spending money due to the lower monthly payment), and also allow some borrowers in exotic and unaffordable ARM structures to refinance into a traditional mortgage (which would in theory help stem some of the foreclosures). 

 

Writing on the effectiveness of this program would be beyond the scope of today’s letter.  The main point to take away from this today is that that the $300 billion purchase program just ended...on-time no less.  The Fed has been a big player in the Treasury market and tomorrow they will not be there with a fat wallet and a desire to manipulate yield levels.  This is a good development.  The immediate thought it that yields could begin to drift higher in their absence.  Time will tell.  Offsetting this to some extent is that there has been no shortage of new money chasing Treasuries at this weeks auctions.  The auctions have gone well so far and we’ll see what type of demand there is today for the 7-year auction.  If the market decides it doesn’t like the longer dated Treasuries today and the Fed isn’t there to pick them up we could see a decent steepening of the yield curve as the long end of the curve begins to rise.

 

On superstitions

 

I was once told that it’s bad luck to be superstitious…so I try to avoid it.  However, with the Phillies playing the Yankees in the World Series I feel the need to bring this up.  There was a nice Bloomberg article this morning that pointed out that the last time a Philadelphia team won two back-to-back World Series titles was in 1929 and 1930 respectively.  The Phillies won the title last year and they are up on the Yankees 1-0 so far in the current series.  Given our current economic conditions and the Phillies strong showing thus far it has some analysts in the investment world pointing out the obvious correlation between the Phillies winning and our returning to another Great Depression.  I don’t want to influence who you root for, I just want you to know that if the Phillies win and you rooted for them, and we get a double-dip recession…then it’s your fault.  Full disclosure requires that I disclose that I have NO money on this game…honestly I don’t.  If I did have any money on the Yankees I’d tell you…really I would.

 

As always, feel free to call or e-mail with any questions, comments or complaints.

 

Steve Scaramastro, SVP

Vining Sparks

800-311-0707

 

 

 

 

 

 

 

 

 

Market Update 10 27 09: The Treasury auctions are going well

 

The Auction

 

The US Treasury is in the process of auctioning $123 billion worth of securities in 4 separate auctions this week.  The size of this auction was a cause for concern in the market recently and provided some fuel for the selloff we experienced along the length of the Treasury curve.  Yesterday the 10-year Treasury traded above the 3.50% level for the first time since August, and traded as high as a 3.57% on the day. 

 

So far the auctions have gone very well.  From the activity we’ve seen thus far it would appear that the market has a bottomless appetite for Treasuries.  The first two auctions were very well attended, so well in fact that our lead trader couldn’t remember a 2-year auction with such strong activity.  They auctioned a record $44 Billion in 2-year notes with demand that far exceeded the average for the last 10 auctions.  So the market rallies today, erasing much of yesterday’s gains in yield.  The 10-year Treasury at a 3.47%, around 10 bps lower than yesterdays high. 

 

What’s on deck?

 

There are more auctions to go and we’ll have to wait and see if all maturities receive the same type of welcome or if there is just huge demand for the short stuff.  Tomorrow we see the sale of $41 Billion in 5-year notes, and Thursday brings the sale of $31 Billion of 7-year notes.

 

The next Fed meeting is November 4^th, with results released at 2:15 PM Eastern time. 

 

If you have any questions or if there is anything I can be doing for you just let me know.

 

Market Update 10 22 09 _ My pre-schooler got 8 grand from the government to buy a house

 

We’re with the government and we’re here to help

 

There is an old phrase that says “That guy couldn’t find his backside with two hands and a map”.  It’s a great saying because conveys both humor and information at the same time.  Upon hearing it you know exactly the type of person that you’ll be dealing with.  This phrase reminds me of the government’s actions lately.  There has been a lot of meddling in the markets as the bureaucrats try to “fix” things and we’re starting to see a few unintended consequences.  I don’t generally need reminders that the government isn’t  good at running things, but sometimes you get one that is so funny that it hurts.  Today a report is out on the governments “First Time Home Buyers” program.  This program gives up to an $8,000 tax credit to first time home buyers under the theory that this will stimulate demand for houses (more on this later).

 

The latest headline news on government efficiency reads “Treasury says that Four-Year old child received homebuyer tax credit.”  Now that headline really makes me smile.  It’s not the kind of smile you get when you hear of some hard working American experiencing the pride that comes with buying their first home…it’s more the smile of the experienced veteran watching the head-strong rookie stumble blindly from one bad situation to another that could have easily been avoided if only he’d asked for some advice.  Treasury dryly noted in their testimony before congress that “Some key controls were missing to prevent an individual from erroneously or fraudulently claiming the credit and receiving an erroneous refund of up to $8,000”.  Classic government operations at their best.  Can you imagine the press conferences on capitol hill if a BANK had done this?

 

Low rates for “an extended period”

 

The government is bending over backward to keep rates low to support a broad based economic recovery.  The Fed took short rates to zero and has been buying heavily in the MBS and Agency sectors to keep spreads low.  If you push the Treasury curve down and then push MBS spreads down too you will generate lower mortgage rates…which is exactly what the Fed has done.  However, just because you make rates artificially low doesn’t mean that people will magically qualify for loans.

 

The first obstacle to this plan is that we are in the middle of a bad recession.  People are scared and generally don’t want to take on more debt…as witnessed by the declining consumer debt figures and the increasing consumer savings figures.  It’s a pretty natural development…if you’re worried about losing your job and your home, your behavior changes.  You shed debt and you increase your savings.  Cash becomes king and living within your means is cool again.  Suddenly you don’t feel the burning desire to go out to eat every night, buy big screen TV’s, and look for a new house complete with a big payment attached.  So behavior is the first obstacle.  And this obstacle doesn’t look likely to change any time soon. 

 

The next obstacle is the credit quality of the prospective buyers that do exist.  Just because someone likes current mortgage rates doesn’t mean that they qualify for a loan.  Credit standards have tightened…and rightfully so.  Now, if you multiply the remaining prospective buyers times the percent that actually qualify under current credit standards your pool of potential buyers is beginning to shrink in a material way.

 

Another consideration is oversupply and foreclosures.  These factors need time to work themselves out.  Many willing and able buyers are going to stay on the sidelines until they feel confident that factors like foreclosures won’t continue pushing home prices down immediately after they buy.  Who wants to be underwater the month after you buy?  A recent story on CNN Money states that the national median home price is expected to drop 11% by June 2010.

 

No amount of short cuts and government programs can change the fundamentals in this sector.

 

First time homebuyers

 

The first time homebuyers program is designed to stimulate demand by giving up to $8,000 to qualifying buyers.  Obviously this will draw some people into the market, which will support home prices to an extent, which will have far reaching effects down the line.  So easy a bureaucrat can do it.  What could be easier? 

 

The problem is that at its best this program is simply pulling future consumption into the present.  So the question becomes what happens to this demand when the program stops?  It’s not too difficult to reach the conclusion that when the free money stops demand will slow down.  The problem with this type of demand is that it’s not sustainable.  The government simply can’t spend enough on these tax credits to “fix” the housing sector.

 

Two big hurdles for the housing sector are approaching.  The first is going to be the end of the first time homebuyer credit program.  This program is due to expire in November.  At the least this will reduce demand from new home buyers, at worst it might have already sucked future activity into the present…leaving a gaping hole where that demand would have been absent the program.  Yogi Bera was at a pizza shop one time and they asked him if he wanted his pizza cut into six slices or eight.  He responded “six slices…there’s no way I could eat eight.”  The government will find this same situation in the housing market.  You can pull future buyers into the present with a tax credit but you’re really just shuffling buyers around…you can slice it any way you want but the market is still the same size.  So that’s the first hurdle.

 

The second hurdle USED TO BE THE FIRST HURDLE…in that it was supposed to have already happened.  The Fed was supposed to terminate their MBS purchase program in October.  That didn’t happen.  They realized that there was nobody there to take the baton from them.  If they quit buying then MBS spreads would widen out until they reached a level that enticed new buyers.  I talk to a lot of investors and I don’t have even ONE investor that is clamoring for more low coupon 30 year MBS.  The Fed currently owns 34% of the MBS pass through market…they are the only ones willing to buy long MBS at these levels.  And they NEED these levels for their plans to work…they must keep borrowing costs low.  They couldn’t quit the program in October because doing so would have caused mortgage rates to rise…so they kicked the can down the road to 1Q 2010. 

 

Will they be able to exit in 1Q 2010?  Who will step in to buy at these levels?  If they exit and nobody steps in to buy then MBS spreads will widen until the market finds them attractive…water will seek its own level so to speak.  The Fed is looking at a tough set of choices.  If organic market liquidity hasn’t returned by March 2010, then they are either going to have to extend their buying program again or find a way to get comfortable with higher mortgage rates….but who knows…maybe they’ll come up with another new and efficient government-run plan.

 

Tax Credits for kids

 

I guess tonight I’ll go home and ask my 6-year old daughter and 9-year old son what they would do with $8,000 apiece.  I think I know the answers…and it involves a lot of Chuck E. Cheese and video games.  Maybe this government program fraud stuff is the way to go…it would surely stimulate the economy better than any government program I’ve seen so far.

 

As always if you have any questions or if there is anything I can be doing for you just let me know.

 

Steve Scaramastro

800-311-0707

 

 

 

 

 

 

 

 

Market Update 10 1 30 _ Not Halloween yet but the market is spooked

 

 

From: Steve Scaramastro [mailto:SScaramastro@Viningsparks.com]
Sent: Saturday, October 03, 2009 4:54 PM
To: sscaramastro@viningsparks.com
Subject: FW: Market Update 10 1 30 _ Not Halloween yet but the market is spooked

 

 

 

From: Steve Scaramastro [mailto:SScaramastro@Viningsparks.com]
Sent: Thursday, October 01, 2009 2:14 PM
To: 'Sandy Berlin'
Subject: FW: Market Update 10 1 30 _ Not Halloween yet but the market is spooked

 

 

 

From: Steve Scaramastro [mailto:SScaramastro@Viningsparks.com]
Sent: Thursday, October 01, 2009 1:31 PM
To: sscaramastro@viningsparks.com; 'Will Taylor'; 'Lisa Butler'
Subject: Market Update 10 1 30 _ Not Halloween yet but the market is spooked

 

Yesterday on the way in to work I passed a guy in traffic that was heading out of town in the opposite lane.  It was 65 degrees that morning, the air was crisp, the skies were bright blue, it was the type of weather that could even make a swine-flu victim feel great about being alive.  Attached to the top of his vehicle he had two kayaks and a mountain bike…and he wore a big smile.  The first thought through my head was “there’s a guy that’s not shorting the 20 year Treasury”.  At that point I started thinking that maybe I need to cover my short position and take some time off.  You can see that I didn’t though because I’m here writing this….and I’m still short the 20 year Treasury.

 

This morning we have yet another big rally in the Treasury market.  This time we’ve pushed the 10-year Treasury down to levels it hasn’t seen since May.  The 10 year is trading at a 3.21% right now and the 30-year yield is under 4.00% again.  There was a lot of economic data released this morning and it was a mixed bag.  Market sentiment has taken another seismic shift over the last month or so. 

 

Back in the spring-time hope was welling up everywhere as many people placed bets that this economy was staging a comeback.  In early 2009 the markets began to shake loose from the vice-like grip of fear that had haunted them for so many months.  Buyers returned and spreads narrowed in as it became apparent that the financial system would not experience a catastrophic melt down.  As we stabilized in early spring there were largely two views on the future.  One was the optimistic view that we’d see a “V” shaped recovery and quickly return to normal economic growth.  The other was in my view more realistic that this economy would limp along sideways for some time.  By the time May rolled around it looked like the optimists had the ball and were moving it down the field.  Talk of deflation and economic disaster gave way to talk of “green shoots” and perhaps some inflation. 

 

The optimism that took root over the spring and summer is under some pressure as we move into the 4^th quarter.  If you looked at a chart of the markets movement this year and you weren’t told what you were looking at, you might think you were observing the activity of a bipolar gambler.  The trend has been way up one minute, way down the next, and wildly unpredictable the whole while.  Below is a screenshot of this morning’s activity showing Treasury prices moving up sharply.  The major domestic equity indices are all off, the 10-year Treasury is up over ¾’s of a point and the long bond is up almost a point and a half. 

 

 

 

 

Below is a chart of the 10-year Treasury yield.  I marked this morning’s level in the cross hairs.  The graph points out that the last print we had at a 3.21% level was way back in May when the short-lived optimism phase was just kicking in.  We’re now approaching that level again from the opposite direction as Mr. Optimism gets introduced to Mr. Reality.  The economy is not heating up, initial jobless claims are still running well above 500k a month, despite massive government stimulus GDP is still negative, auto sales have dropped now that the government isn’t funding them anymore, the housing market is still a mess, and (drum roll please) deflation concerns are back in the news.  What “positive” news there is comes to us in the form of numbers that are LESS NEGATIVE than expected.  While that is a necessary pre-condition to get things turned around it doesn’t mean that things will go positive any time soon.  That is what has this market spooked…there is little faith that robust economic growth will return any time soon.

 

 

 

 

 

Today’s data

 

Below is the list of economic data that we got this morning.  Numbers going the wrong direction are highlighted in red, those going the right direction are in green, and those that are unchanged or didn’t have a survey estimate are in white.

 

You can see that it’s a mixed bag this morning.  Personal income and spending were both up a bit,  as was construction spending, but the job losses just keep piling up.  If you monitor the headlines you’ve likely seen an increase in the references to the unemployment rate staying elevated for quite some time...perhaps years at the current levels.  If the prognosticators calling for high unemployment for years are correct then it would seem even more likely that the Fed is also correct in saying that rates will remain low for an “extended period”. 

 

 

 

 

When will rates rise?

 

2010 is only 3 months away.  The forecasts for rising rates in 2010 look like more of a long-shot every week.  The economy is still in the ditch and the Fed missed its first deadline to exit its role as the largest buyer in the MBS market.  The whole idea of the Fed cutting rates and buying bonds was to keep rates low so that consumers and small businesses could have adequate access to credit.  They cut the overnight rate to zero which anchors the short end of the curve, then they bought Treasury bonds on the open market to push yields lower still, then they bought 34% of the mortgage market to absolutely crush the spread that existed between MBS and Treasuries.  Mission accomplished.  They got rates really low and spreads really tight.  Now however they own a lot of MBS product that nobody else wants at current levels and they can’t exit this role without causing spreads to widen again.  The original deadline to cease MBS purchases was October…this got extended to the first quarter of 2010.  The Fed understands that if they quit buying then spreads will blow back out quickly by some degree.  With the economy in its current condition they really aren’t excited about seeing borrowing costs skyrocket so they continue the program…they will keep rates artificially low through the magic of the Feds Balance Sheet.  I’ve attached a graph of the Feds balance sheet for reference; it’s an interesting sight.

 

 

 

In addition to the weekly economic data, prepare yourselves to start hearing about retail sales heading into the holiday season.  High unemployment and limited access to credit cards paint a sad picture of a 4^th quarter consumer.  I hope I’m wrong but it’s difficult to see a strong bout of sales to help the retailers finish off 2009.  This is the type of thing that could cause the mood of the market to stay depressed through year end.

 

I realized while proof reading this update that there isn’t a lot of good news to report.  I too need a break from it all so I think I’ll put in a full day tomorrow then take the next two days off.

 

If you have any questions on this material just let me know. 

 

Steve Scaramastro, SVP

Vining Sparks – Portfolio Management Group

800-311-0707

 

 

 

 

 

 

 

 

Market Update 10 1 30 _ Not Halloween yet but the market is spooked

Yesterday on the way in to work I passed a guy in traffic that was heading out of town in the opposite lane.  It was 65 degrees that morning, the air was crisp, the skies were bright blue, it was the type of weather that could even make a swine-flu victim feel great about being alive.  Attached to the top of his vehicle he had two kayaks and a mountain bike…and he wore a big smile.  The first thought through my head was “there’s a guy that’s not shorting the 20 year Treasury”.  At that point I started thinking that maybe I need to cover my short position and take some time off.  You can see that I didn’t though because I’m here writing this….and I’m still short the 20 year Treasury.

 

This morning we have yet another big rally in the Treasury market.  This time we’ve pushed the 10-year Treasury down to levels it hasn’t seen since May.  The 10 year is trading at a 3.21% right now and the 30-year yield is under 4.00% again.  There was a lot of economic data released this morning and it was a mixed bag.  Market sentiment has taken another seismic shift over the last month or so. 

 

Back in the spring-time hope was welling up everywhere as many people placed bets that this economy was staging a comeback.  In early 2009 the markets began to shake loose from the vice-like grip of fear that had haunted them for so many months.  Buyers returned and spreads narrowed in as it became apparent that the financial system would not experience a catastrophic melt down.  As we stabilized in early spring there were largely two views on the future.  One was the optimistic view that we’d see a “V” shaped recovery and quickly return to normal economic growth.  The other was in my view more realistic that this economy would limp along sideways for some time.  By the time May rolled around it looked like the optimists had the ball and were moving it down the field.  Talk of deflation and economic disaster gave way to talk of “green shoots” and perhaps some inflation. 

 

The optimism that took root over the spring and summer is under some pressure as we move into the 4^th quarter.  If you looked at a chart of the markets movement this year and you weren’t told what you were looking at, you might think you were observing the activity of a bipolar gambler.  The trend has been way up one minute, way down the next, and wildly unpredictable the whole while.  Below is a screenshot of this morning’s activity showing Treasury prices moving up sharply.  The major domestic equity indices are all off, the 10-year Treasury is up over ¾’s of a point and the long bond is up almost a point and a half. 

 

 

 

 

Below is a chart of the 10-year Treasury yield.  I marked this morning’s level in the cross hairs.  The graph points out that the last print we had at a 3.21% level was way back in May when the short-lived optimism phase was just kicking in.  We’re now approaching that level again from the opposite direction as Mr. Optimism gets introduced to Mr. Reality.  The economy is not heating up, initial jobless claims are still running well above 500k a month, despite massive government stimulus GDP is still negative, auto sales have dropped now that the government isn’t funding them anymore, the housing market is still a mess, and (drum roll please) deflation concerns are back in the news.  What “positive” news there is comes to us in the form of numbers that are LESS NEGATIVE than expected.  While that is a necessary pre-condition to get things turned around it doesn’t mean that things will go positive any time soon.  That is what has this market spooked…there is little faith that robust economic growth will return any time soon.

 

 

 

 

 

Today’s data

 

Below is the list of economic data that we got this morning.  Numbers going the wrong direction are highlighted in red, those going the right direction are in green, and those that are unchanged or didn’t have a survey estimate are in white.

 

You can see that it’s a mixed bag this morning.  Personal income and spending were both up a bit,  as was construction spending, but the job losses just keep piling up.  If you monitor the headlines you’ve likely seen an increase in the references to the unemployment rate staying elevated for quite some time...perhaps years at the current levels.  If the prognosticators calling for high unemployment for years are correct then it would seem even more likely that the Fed is also correct in saying that rates will remain low for an “extended period”. 

 

 

 

 

When will rates rise?

 

2010 is only 3 months away.  The forecasts for rising rates in 2010 look like more of a long-shot every week.  The economy is still in the ditch and the Fed missed its first deadline to exit its role as the largest buyer in the MBS market.  The whole idea of the Fed cutting rates and buying bonds was to keep rates low so that consumers and small businesses could have adequate access to credit.  They cut the overnight rate to zero which anchors the short end of the curve, then they bought Treasury bonds on the open market to push yields lower still, then they bought 34% of the mortgage market to absolutely crush the spread that existed between MBS and Treasuries.  Mission accomplished.  They got rates really low and spreads really tight.  Now however they own a lot of MBS product that nobody else wants at current levels and they can’t exit this role without causing spreads to widen again.  The original deadline to cease MBS purchases was October…this got extended to the first quarter of 2010.  The Fed understands that if they quit buying then spreads will blow back out quickly by some degree.  With the economy in its current condition they really aren’t excited about seeing borrowing costs skyrocket so they continue the program…they will keep rates artificially low through the magic of the Feds Balance Sheet.  I’ve attached a graph of the Feds balance sheet for reference; it’s an interesting sight.

 

 

 

In addition to the weekly economic data, prepare yourselves to start hearing about retail sales heading into the holiday season.  High unemployment and limited access to credit cards paint a sad picture of a 4^th quarter consumer.  I hope I’m wrong but it’s difficult to see a strong bout of sales to help the retailers finish off 2009.  This is the type of thing that could cause the mood of the market to stay depressed through year end.

 

I realized while proof reading this update that there isn’t a lot of good news to report.  I too need a break from it all so I think I’ll put in a full day tomorrow then take the next two days off.

 

If you have any questions on this material just let me know.