January Construction Spending Stumbles

The decline in construction spending accelerated in January, increasing to -1.7% MoM, from a larger than originally reported decline of -1.3% MoM in December.  The January drop in construction spending was the largest monthly decline in 14 years, and indicates the rising economic uncertainty and tightening credit conditions are further eroding investment demand for residential and non-residential buildings.  Total construction spending has now fallen for four straight months. 

 

The market had been looking for only a -0.7% drop in January.  Residential construction losses rose to the highest in three months at -2.9% MoM, while non-residential construction spending has now dropped two months in a row, falling -0.8% MoM in January.  This is a blow, as the non-residential spending growth had been offsetting a lot of the decline in residential spending over the past 2.5 years. 

 

Over the past year, total construction spending has fallen -3.3% YoY, with residential investment dropping by -19.4% and non-residential spending rising by +12.4% YoY.  On a three month annualized basis, residential spending declines continue to accelerate, running at over -26% annualized pace the past two months compared to half that pace last July at -12.6% annualized.

 

Both public and private spending fell last month, with private spending accounting for the brunt of the decline, falling -2.2% MoM and -6.4% YoY.  Public spending fell -0.2% MoM, but shows a heartier gain of +6.6% YoY.  This month's decline in public spending was due to a drop in road-building, while the drop in private non-residential construction was due to a slowdown in hotel, hospital, and powerplant investment.

End-of-Day Market Update

From Deutsche Bank:  "Financials lead US stocks lower after soft jobless data, hedge fund liquidation news and Bernanke comment on banks, puts bid back into Tsy's, Dollar hits new lows, driving gold/oil to new highs. Credit widens significantly...Fed's Bernanke says not facing 70s style stagflation, but facing more inflation than in 2001. Says expects there will be some bank failures."

From Lehman:  "The treasury market exploded higher on Thursday, as if accounts forgot all about the leap year and decided that they would do their month-end buying on the 28th. GDP came slightly softer than expected, initial claims rose, credit widened, and stocks were soft, which all must have contributed in some way to an 18+ bp rally in 5 year notes. And in terms of flows, it was the same story  that we have been talking about for the past three days, with huge buying from our franchise, from mortgage, real money and fast money accounts. Yes, it was another huge day for commodities, and the dollar got crushed again, but these things simply don't seem to matter to accounts who believe that mortgage selling needs are a thing of the past, that the economy is worsening, and that rates are the place to be....The yield curve was all over the place today, but finishedflatter from 2s to 5s and steeper from 5s to bonds...Thursday's yield changes were roughly as follows:

2 years: -14.0 bp

5 years: -16.5 bp

10 years: -14.4 bp

18 years: -12.5 bp

30 years: -10.3 bp"

From Bear Stearns:  "MBS open up 20bps tighter on the back of servicer related convexity buying. Our first dose of heavy Asian participation fed the euphoria - until we ran out of good news. Rumors of CDO lists, write downs, bank failures...salted the fixed income well. After that every convexity purchase was overpowered by waves of fast money profit taking.  MBS gave up 1/2 of tightening. More recently we have seen core MM selling of the basis. The GN/FN price chart looks like my EKG  GNMA asked SIFMA to raise its conforming LL from 362K to 417K."

From Suntrust:  "The news today has been almost uniformly bullish for bonds. Jobless claims spiked +19k to 373k, indicating a softening labor market.  Q4 GDP came in unchanged at +.6 instead of an expected revision higher.  Freddie posted a wider than expected Q4 loss. Sprint lost $29.5 bln in Q4.  Thornburg Mortgage is facing margin calls. Chairman Bernanke sparked selling both in the dollar and in financial stocks when he made some comments regarding bank failures. Bernanke said banks need more capital and that he sees no failures among big banks but felt that there could be some small bank failures.  The Euro is trading at $1.523. Treasuries have been on a tear to the upside all day. The 5 yr note is up the most, shedding 15 bp in yield even in the face of a $16 bln 5 yr auction. There is a huge short in 5's. Asian buyers have been aggressive for the last three sessions in a row. The auction came on the rich side at 2.755, but has continued trading higher. A break through 3.75 on 10's kicked in a forced short covering frenzy, taking the yield down to 3.69. There could be more long end buying tomorrow, the last day for month-end extensions."

From UBS:  "Fed Chairman Bernanke’s prepared testimony on Thursday was the same as Wednesday’s, in which he highlighted downside risks to growth, even as he acknowledged the pickup in commodity prices as well as core inflation over the past month. In Q&A, Senator Dodd (D-CT) asked Chairman Bernanke if the Fed is in as strong a position to respond to the current situation in the economy as in the 2001 downturn. Mr. Bernanke responded: “There are certainly some similarities with the 2001 experience, most obviously the sharp change in asset price. In the previous case it was the stock market—tech stocks. In this case, it’s home prices. But there are some important differences as well, as you point out. The decline in home prices is creating a much broader set of issues, both for borrowers and homeowners, but also for the credit markets. And so we have a sustained disruption in the credit process, which has gone on now since last August and is not yet near completion. And so that is a continuing drag on the economy and a continuing problem for us as we try to restore stronger growth.. The other, I think, problem is that we do have greater inflation pressure at this point than we did in 2001. ” He also was asked about his thoughts on “stagflation”. He responded “I don’t anticipate stagflation. I don’t think we’re anywhere near the situation that prevailed in the 1970s.” ...Equity markets finished lower on Thursday, with both the S&P500 and the Nasdaq each down 0.9%. Homebuilding and financial stocks again fell sharply: the S&P 500 homebuilding index fell 8.1% and the financials index ended down 3.0%. At 4pm Treasury yields were lower, with the 2-year yield down 16bps to 1.84% and 10-yr yields down 18bp to 3.68%. The dollar weakened again versus the euro (-0.6% to another record low) and the yen (-1.1%). Crude oil prices rose 2.6% to $102.21/bbl."

See attached charts of Euro, S&P 500, 10-year Treasury yield, gold, wheat, CRB Index of commodity prices, VIX index of implied stock volatility (prices normally rise when demand for "insurance", or buying puts, in the equity markets increases)

Three month T-Bill yield fell 7 bp to 1.89%.

Two year T-Note yield fell 18 bp to 1.82%

Ten year T-Note yield fell 18 bp to 3.67%

Dow fell 112 to 12,582

S&P 500 fell 12 to 1368

Dollar index fell .49 to 73.73

Yen at 105.3 per dollar 

Euro at 1.52 

Gold rose $13 to $971

Oil rose $2.84 to $102.5

*All prices as of 4:44 PM

4th Quarter GDP Growth Remains Anemic

First revisions to 4th quarter GDP data this morning did not improve as expected.  Real GDP had been anticipated to increase to +.8%, but instead held steady at an anemic +.6% annualized growth rate.  This compares negatively to the 4.9% growth observed in the third quarter. 

 

As anticipated, exports were revised up to +4.8% from 3.9%, and imports were revised down to -1.9% from +.3%. The improvement in trade kept GDP from being negative last quarter, as net exports added +.9% to real GDP in the 4th quarter.  GDP has grown every quarter since 2001.  Government spending was revised lower, though non-defense spending rose.  Inventories saw a larger than expected liquidation of -$10 billion versus the prior -$3.4B.  In addition, gross private investment fell by -12.5% versus the previous -10.2%, and residential construction took off an even larger drop of -25.2% versus the originally reported decline of -23.9%.  The drag from residential construction was the largest since 1981.

 

Personal consumption/consumer spending eased back to 1.9%, versus +2% originally reported, and has likely eased further in the first quarter as consumer sentiment has slumped.  To add to the consumption problems, personal income growth was revised down to +4.1% from +4.5%, and is unlikely to recover rapidly as unemployment rises.

 

Though core PCE held steady at 2.7%, the headline index rose to 2.7% from the original estimate of +2.6%. 

 

The final 4th quarter GDP figures will be released in March.

Jobless Claims Trend Higher

Initial jobless claims unexpectedly rose +19k last week to 373k.  This is the highest level since 2005!  Consensus had looked for an unchanged level of 350k.  The number of continuing claims also rose to almost 2.81M suggesting that labor demand is weakening.

OFHEO to Remove Portfolio Growth Caps

Contact Corinne Russell (202) 414-6921   Stefanie Mullin (202) 414-6376
For Immediate Release February 27, 2008
	STATEMENT OF OFHEO DIRECTOR JAMES B. LOCKHART
Fannie Mae published its timely, audited financial statement for 2007 today and Freddie Mac anticipates publishing its statement tomorrow. These steps constitute an important milestone in remediation of their respective operational and control weaknesses that led to multi-year periods when neither company released timely, audited financial statements. Both companies have been operating under regulatory restrictions stemming from these past problems. These restrictions include growth limits on their retained mortgage portfolios, Consent Orders prescribing necessary remediation actions, and required 30 percent capital cushions above the statutory minimum capital requirements. Mortgage Portfolio Growth Caps In recognition of the progress being made by both companies, as indicated by the timely release of their 2007 audited financial statements, and consistent with the terms of the relevant agreements, OFHEO will remove the portfolio growth caps for both companies on March 1, 2008. Consent Orders Both companies have also made substantial progress with respect to completing the requirements of their respective Consent Orders. As each Enterprise nears completion, OFHEO is working with them to undertake a thorough review and validation of the completed work and will test the new systems and controls, as needed. To the extent that OFHEO finds the Enterprise has fulfilled the requirements of its Consent Order and the Enterprise has continued to file timely, audited financial statements, OFHEO will lift the Consent Order. Fannie Mae has reported to us that its remediation activities under the Consent Order are nearing completion. Freddie Mac has completed most of the requirements under its Consent Order, but still faces the requirement of separating the CEO and Chairman position. Although not in the Consent Order, completion of the SEC registration process is a critical step. OFHEO-Directed Capital Requirements Since agreements reached in early 2004, OFHEO has had an ongoing requirement on each Enterprise to maintain a capital level at least 30 percent above the statutory minimum capital requirement because of the financial and operational uncertainties associated with their past problems. In retrospect, this OFHEO-directed capital requirement, coupled with their large preferred stock offerings means that they are in a much better capital position to deal with today’s difficult and volatile market conditions and their significant losses. As each Enterprise nears the lifting of its Consent Order, OFHEO will discuss with its management the gradual decreasing of the current 30 percent OFHEO-directed capital requirement. The approach and timing of this decrease will also include consideration of the financial condition of the company, its overall risk profile, and current market conditions. It will also include consideration of the importance of the Enterprises remaining soundly capitalized to fulfill their important public purpose and the recent temporary expansion of their mission.  ###
OFHEO's mission is to promote housing and a strong national housing finance system by ensuring the safety and soundness of Fannie Mae and Freddie Mac.

New Home Sales Continue Decline - Set New Records in Annual House Price Declines- Inventory Highest Since 1981!

New home sales continued plummeting in January, falling an additional -2.8% MoM to a new cycle low of 588k. This is the lowest new home sales pace since 1995.  In addition, this figure doesn't include cancellations.  Toll Brothers this morning announced that their cancellation rate is slowing, it fell to 28% in the most recent quarter from 39% in the prior quarter.  So, most likely real new home sales are even weaker than reported.  Over the past year, new home sales have fallen -34% YoY.

 

Inventories rose again to a new high of 9.9 months, based on the current sales pace, the highest since 1981!  Actual number of homes for sale fell -2.2% MoM.  Clearly there is still way too much excess inventory.

 

Median prices tumbled further down the cliff in January, falling almost $10k MoM to $216K.  This level is down -15% YoY, a new record for this series which looks back over 40 years.  The mean price is down -12.1% YoY to $276.6K.  But, this figure needs to be consumed with caution.  The credit crunch in jumbo loans has practically shut-down activity at the upper end of the market, which naturally will bias down the median.  There are also regional variations in pricing costs that will impact the national average as different regions activity changes.

 

Regionally, purchases fell everywhere but the West, where they rose +2.2% MoM.  The Northeast saw the largest decline at -10% MoM.

 

New home sales account for less than 15% of home purchases each year, and they are considered a more timely indicator of demand than existing home sales.  Fixed-rate interest rates rose last week to the highest level since last October, at 6.27% for a 30 year.

 

Durable Goods Orders Reverse December Strength in January

Durable goods orders fell more than expected in January, declining -5.3% MoM (consensus -4%).  In addition, December's gain was revised down to +4.4% MoM from the originally reported increase of +5.2% MoM.  A large swing in aircraft orders(-31% MoM) is responsible for the majority of the change, though decreased demand for computers and communication equipment (-12% MoM) were also significant contributors.  Excluding transportation orders (-13% MoM), which are known to be very volatile from month to month, durable goods orders fell -1.6% MoM (consensus -1.4%), and December's ex-transportation figure was also revised lower to +2% from +2.6%.

 

Business investment is being watched closely as a good indicator of rising recession risks as companies cut back in the face of weakening business and consumer demand.  The best proxy for business investment is orders for non-defense capital goods excluding aircraft.  This category fell -1.4% MoM, the largest decline since October, and shipments rose +.1% MoM, a definite slowdown from the +1.7% pace of the prior month.

 

Capital goods orders declined by -9.6% MoM.  A 20% decline in military orders caused ex-defense equipment orders to fall -4.7% MoM, though defense shipments rose +11% MoM.  Non-defense capital goods orders fell -8.1% MoM.  Not all is bleak, as export orders remain strong on higher demand related to the cheapening dollar.

 

Overall, durable goods shipments rose +1.8% MoM, inventories rose +.6% MoM, and unfilled orders rose +.6% MoM.  The inventory to shipment ratio eased slightly to 1.5 from 1.51.

 

Over the past year, new durable goods orders rose +3% YoY, with ex-transportation and ex-defense both growing by 2.8% YoY.  Capital goods orders are up +13.3% YoY, with defense up only +3.9% YoY and non-defense capital goods orders rising +15% YoY.  Transportation orders are up +3.6% YoY.  All of the transportation gains are attributable to non-defense aircraft orders rising +84% YoY while auto and truck orders have fallen -7.6% YoY.  Machinery orders have grown an impressive +17% YoY.  Inventory growth continues, rising +3.9% YoY.

 

The January reversal basically offset the gains of December. Since this series is volatile, it is probably best to assume that demand has stagnated, rather than declined as we enter 2008.  But, weakness in business investment is an important indicator of an economy falling into recession.