For Bernanke and QE 3 (the MBS strand) there was only good news in Q1 ’13 GDP. Residential housing “investment”, i.e., housing-related construction, was revised upward to a 14% growth rate from 12.1%. That meant the frothy real estate “markets” provided 0.34% of the 1.8% growth rate in Q1 GDP. Unfortunately, that was less than the 0.41% provided in Q4, but given that GDP needed every boost available it was welcomed warmly, at least on the surface.
In more quiet corners where monetary policy is freely discussed without wrecking rational expectations management of the public, the place where taper was first brought into the discussion, the contradictory trajectory of two major housing factors has to be causing a great deal of concern. In my opinion the Fed is extremely nervous about housing and bubbles again, and that has been the impetus behind the taper talk.
The record-setting pace of home price appreciation in April isn’t going to resolve the incongruity between asset inflation and the continued lack of recovery. The FOMC has put monetary policy in an impossible position by continuing to believe credit growth and forced inflation expectations would lead to something other than asset inflation.
According to S&P/Case Shiller, the 10-city composite rose 11.6% Y/Y, while the 20-city composite was up 12.1%. Again, these were the largest single-month gains in the series’ history. But that wasn’t the full extent of the story, as the gains in several markets were above or approaching 20% Y/Y: San Francisco +23.9%, Las Vegas +22.3%, Phoenix 21.5%, Atlanta 20.8%, Detroit 19.8%, Los Angeles 18.8%, Minneapolis 14.8%, San Diego 14.7%.
Contradicting such “good” news, was the further drop in mortgage applications. Responding to the rout in bond markets, interest rates across the real estate financing complex have backed up significantly. The result has been plummeting refi applications. The Mortgage Bankers Association refi application index dropped to a two-year low. While mortgage applications for purchases continue to grow (chasing price bubbles again), refis were still 67% of the mortgage market (a new cycle low) meaning that this preferred monetary channel is closing due to the bond market selloff.
Absent the traditional channels of credit supply into the household and consumer segments that existed pre-2007, mortgage refis have been the single largest outlet for monetary policy into the real economy, particularly since refi loans are directly tied to consumer spending (through either home improvement projects or just cash out home equity).
The mortgage market is not the only place where rate volatility is having a noticeable impact. I noted the postponement of junk bond placements previously, and now we have had a rash of muni bond issues getting pulled. According to Reuters this week,
“Since mid-June, on the prospect that the Federal Reserve could change course on its easy monetary policy as the economy improves, the municipal bond market has seen a total of $2.6 billion in sales either canceled or delayed.”
I suppose the Reuters author(s) had little editorial freedom outside of linking the “improving” economy to taper, but at least they connected the dots correctly in linking taper talk to the turmoil in bonds. But while it has not closed the muni financing door completely, some obligors are all of a sudden finding a tough environment for funds. Illinois, for example, is pushing through a massive bond offering because it has little other option. As a result, the state is bracing for yields near 6%.
A primary technical flow factor hitting the bond market has been the rash of withdrawals from bond fund and ETF investors. While they supported markets at ridiculously low yields for years, they seem to be taking Bernanke’s taper talk to heart (views on the economy completely aside). Where investment grade corporates had been averaging $23 billion a week in new flow, by the middle of June it was down to $4 billion.
And that crunch has spread globally. Auctions from Russia to Romania to Columbia to China and beyond have failed recently. The Europeans are doing their part to destroy bond funding by continuing to hammer out details where the Cyprus template really is the template (so much for the March/April denials) for only the Southern region.
What this leads to is the monetary trap – where growth is already absent in the face of slowing credit availability. I suppose central banks thought they had the bond markets firmly by the ears, particularly since they have been so incredibly complacent for quite some time now, but the current crunch is the danger of holding the bond market wolf in such a manner.
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