Changing Tide

New: Our 2021 Mortgage and Housing Market Outlook

January 8, 2021 -- A recent and famous political statement is that "elections have consequences." For the most part, that's simply the winner sending notice to the losing side that things are going to change, as the winner(s) will soon set about the business of changing things to suit their needs or achieve their goals. This week, the Senate was swung to a full split, 50-50 between Democrats and Republicans, with incoming VP Harris the tie-breaking vote in cases of deadlock.

The ability of the incoming administration to hold full sway of both the executive and legislative bodies didn't go unnoticed by investors this week. Democratic control makes it rather more likely that the just-passed $900 billion stimulus is just the beginning of a debt-fueled spending binge, one that will likely come even as the economy is beginning to reemerge from the pandemic's effects. The expected surge of new supplies of government debt to pay for more stimulus saw the yield on the influential 10-year Treasury rise by about 20 basis points from this week's low to its peak, blowing past the 1 percent level for the first time since March.

Mortgage rates are poised to rise somewhat as a result, probably the most meaningful rise in some time. This will probably come as a surprise to folks coming into the mortgage market this week, pulled in by headlines of "new record lows for mortgage rates" and New Year's resolutions to get that refinance started. That said, mortgage rates will still be low, just not as low as they have been of late. In terms of rate rise, there are of course still some tempering effects at work, too, not the least of which is that mortgage lenders just posted a banner year for sales and profits, and so have some leeway to absorb some of any increase in rates for at least a time to help keep business flowing.

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There's little doubt that there are facets of the economy which need the stimulus funds just passed, but it's not yet clear what additional funding might be needed in the future, or when. If the $900 billion is sufficient to keep affected businesses afloat until they can more fully engage in the economy, how much more will be needed? If recent experience tells us anything, it's that a lot of funds distributed via direct stimulus checks resulted a lot of bulking up of savings and paying down of debt. Spending funds can be a challenge when favorite activities are curtailed or venues are closed, and those can't reopen full until vaccination is widespread and people feel safe out in the world again.

Potential future stimulus aside, it also bears considering that new federal spending won't only come in the form of stimulus, but also in the form of new priorities for the incoming administration, and coming bond issuance will be high regardless of the composition of another round of stimulus, should it come.

The economy is doing about as well as can be expected, and broad measures of activity bear this out. Twin reports from the Institute for Supply Management covering both the manufacturing and service sectors came in at improved levels for December, so 2020 ended on a pretty good note even if the size of the economic pie is still considerably smaller at the end of the year than at its beginning.

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The ISM manufacturing review for December produced a value of 60.7 for the month, a rise of 3.2 point and the highest monthly figure in about two and a half years. Forecasts were expecting a small decline in the headline value, but improvement came from all the components that make up the index, with new orders moving to 67.9 (a robust level) and the employment measure moving to the "expanding" side of the ledger for the first time since July 2019. One other item of note is that the "prices paid" component (a measure of price pressures being seen across a wide swath of manufacturing) continues to rise fairly quickly. The Fed may not be concerned about inflation just yet, but price pressures are clearly on the rise for manufacturers.

Overall factory orders expanded by 1% in November, continuing a seven-month string of gains. Order for durable goods rose by 1% for the month, while those for non-durables rose by 1.1%, the most since July. So-called "core" factory orders (non-defense related orders, and excluding aircraft) did also put in a gain of 0.6% for the month, also a seventh consecutive increase, but the smallest of the group and part of a declining pattern as the benefits of the CARES Act stimulus grow smaller in the rearview mirror.

The much larger service-sector side of the economy also managed to expand a little faster in December. The ISM's services index kicked 1.3 points higher to 57.2 for the month, moving into deeper into moderate-to-strong territory. Measures of new orders moved higher, rising 1.3 points to 58.5, but employment contracted by 3.3 points, falling below the neutral threshold of 50 to land at 48.2, so service businesses aren't adding new workers at the moment. On the inflation side, prices pair remain elevated, but have been fairly steady over the last three months, so costs are firm but not accelerating.

That service businesses can't or won't add employees was clearly reflected in the December employment report. During the month, 140,000 jobs were shed, the first such decline in hiring since April, and the culmination of a pattern of diminishing hiring that has been in place since July. Offsetting the December loss of jobs were upward revisions to November and October figures, improvements that totaled 135,000 hires. For December, goods-producing concerns added 93,000 jobs; service firms slashed 233,000, as leisure and hospitality firms faced both new restrictions and a more COVID-wary populace during the month. Educational services and state and local government job cuts rounded out the totals. Despite the reduction in payrolls, the nation's rate of unemployment remained at 6.7%, and the labor force participation rate held at 61.5% for the month.

That the employment market would be weaker in December was pretty much a given, inasmuch that the weekly initial claims for unemployment assistance stopped declining in November had moved measurably higher in December compared to November, even factoring seasonal adjustment, delayed reporting and even fraud distortions in the data. More announced layoffs during the period were also reported by the outplacement firm of Challenger, Gray and Christmas, who tallied 77,030 announced workforce reductions in December (up from about 65,000 in November) and also that the payroll processing firm ADP reported 123,000 reduction in payrolls from private firms for the month.

With the U.S. economy performing fairly in November, the nation's imbalance of trade widened to $68.1 billion for the month. Imports of goods rose by $7.2 billion, and have returned to levels seen before the pandemic broke out, but the economies of many of our trading partners have continued to struggle limited export opportunities. Exports did manage a $2.2 billion rise for the month, but remain about $25 billion below January levels, so it may be a while before the gap between imports and exports can be narrowed. The dollar has been trending lower over the last couple of months, and this should make the costs of exported goods more competitive, too. China's economy is perhaps the most fully functioning at this point, but their expected purchases of U.S.-produced goods seems to still be falling rather short of "Phase 1" goals agreed to late in 2019. It's not yet known what import/export/tariff policies the Biden administration will pursue, but they are likely to be rather different than were Mr. Trump's.

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Minutes of the December Federal Reserve Open Market Committee meeting were released this week, and reading through them, its fairly clear that the Fed expects to see a soft patch in the new expansion. However, the meeting was completed before the new stimulus was enacted, so the Fed couldn't reckon for it in its collective thinking. Regardless, the pace of the recovery has already been slowing and there is likely to be a bit of a lull for the first quarter of 2021 at least as the COVID-19 outbreak curtails activity, and before the new stimulus can wend its beneficial way through the economy.

The minutes also revealed that the Fed is looking for ways to clarify what it means when it says "substantial further progress" toward reaching the Committee's maximum employment and price stability goals. Currently, it's a "we'll-know-it-when-we-see-it" kind of stance, since "Participants commented that this judgment would be broad, qualitative, and not based on specific numerical criteria or thresholds." However, so as not to confuse or disturb market functioning, "Various participants noted the importance of the Committee clearly communicating its assessment of actual and expected progress toward its longer-run goals well in advance of the time when it could be judged substantial enough to warrant a change in the pace of purchases."

During the meeting, no change to policy or to the pace of QE-style bond buys occurred, but some members expressed a willingness to change the mix of maturities to favor longer-dated bonds if needed or expand the size of buys if warranted. Markets currently expect that bond buys will be tapered in the 2013-2014 fashion well before the first increase in rates may come, presently judged by investor contacts to be sometime in 2024. If the economy gets back up to full speed late this year from COVID cessation and is then goosed by a new blast of stimulus too, odds favor that those time-frame expectations will be accelerated, but there's still plenty of time to contemplate those outcomes.

Current Adjustable Rate Mortgage (ARM) Indexes

IndexFor The Week EndingYear Ago
Jan 01Dec 04Jan 03
6-Mo. TCM 0.10% 0.10% 1.58%
1-Yr. TCM 0.11% 0.11% 1.57%
3-Yr. TCM 0.17% 0.21% 1.59%
10-Yr. TCM 0.94% 0.92% 1.88%
Federal Cost of Funds 0.958% 1.003% 1.103%
30-day SOFR (daily value) 0.00000% 0.08300% n/a%
FHLB 11th District COF 0.466% 0.503% 0.693%
Freddie Mac 30-yr FRM 2.67% 2.71% 3.64%
Historical ARM Index Data

Driven by residential projects, construction spending rose by 0.9% in November. Housing-related spending rise by 2.9%, a sixth consecutive gain as the housing market exhibits considerable strength. That's certainly not the case for commercial/retail/industrial project spending, where a 0.8% decline was seen. In 2020, only two months showed increases in non-residential outlays, and those were overwhelmed by a sea of red ink. Spending on public works projects settled back with a 0.2% decline in November after a pre-election spurt of 1.6% that broke a four-month string of declines.

Applications for mortgages were mixed over the holidays, declining by 5.8% during the Christmas week but rebounding a bit to start the year. Requests for purchase money mortgages rose by 0.8% during the Christmas week, then tailed by 1.6% for New Years. Applications for refinancing did the opposite, plunging by 8.8% for Christmas then bouncing 3% higher to start 2021. The likely minor increase in rates shouldn't disturb homebuyers much, where the issues of limited supply and high prices are more of a deterrent, but there may be a slight lessening of refinance activity if any. Even if rates do move up a little, they will just be a little less fantastic, and still easily among the best of anyone's lifetimes.

So elections have consequences, not only on politicians but also on a wide swath of activities and outcomes, and that includes mortgage rates and ultimately on housing markets. With this week's upturn in influential bond yields, mortgage rates are likely to tick a bit higher next week. We think that when Freddie Mac releases their new data come Thursday morning that the average offered rate for a conforming 30-year fixed-rate mortgage will increase by 5-7 basis points, just enough to move us up off rock bottom levels and perhaps back to those seen around Thanksgiving.

Looking further forward is our latest Two-Month Forecast , where we reveal our expectations for mortgage rates from now up until to mid-February. What do we think early 2021 will bring? Have a look and see.

2021's just got to be better than 2020, right? Maybe, but it all depends on how you look at it. To see our take on mortgage rates, home sales, home prices, the Fed and more, check out our 2021 Outlook

For a really long-run outlook, you'll want to check out "Federal Reserve Policy and Mortgage Rate Cycles".

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In most areas, home prices have been rising for years. If you're curious about how much home equity you have -- or will have at a future date -- you should check out HSH's KnowEquity Tracker and Projector, our unique home equity calculation and forecasting tool.

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