“Lannister, Baratheon, Stark, Tyrell. They’re all just spokes on a wheel. This one’s on top, then that one’s on top, and on and on it spins, crushing those on the ground. I’m not going to stop the wheel. I’m going to break the wheel.”
-Daenerys Targaryen, Game of Thrones
Yellen, Kuroda, Draghi, Carney. This one’s the catalyst, then that one’s the catalyst and on and on the coordinated global central banking cabal spins, crushing long vol carry into the ground.
The Dollar, The Euro, Reflation Trades, Disinflation Trades, Real Growth Exposure. All just spokes on a rotating performance wheel …. this one’s on top, then that one’s on top and on and on it spins …..
‘Ride it until the wheels fall off’ is a defensible life philosophy of sorts. It’s less defensible as a third, shadow central banking mandate.
….. But until the wheel breaks, it will invariably remain a circle and moving circles cycle.
The Macro Maester’s task will remain to front-run who’s on top next.
Back to the Global Macro Grind…
At +32% YTD (S15Home Index) Housing has cycled to the top of the performance wheel.
How long it can occupy the throne has been the subject of increasing angst amidst myriad industry cross currents and some choppy monthly fundamentals.
Since I’m bullish on housing but (perma) bearish on analytical wheel re-invention, here’s how we framed up both yesterday’s Starts data and the broader prevailing setup for housing.
To wit,
Here’s the thing …. when all you have is a hammer, everything looks like a nail … and when you get paid to write stuff, you find stuff to write about - consequential or not.
From timber tariffs, prospective WOTUS impacts to tight labor/lot supply markets and rising unaffordability, it’s all been trotted out by the industry punditry to explain isolated, single month volatility in inherently volatile housing data series over the last couple months.
It’s not that those factors don’t matter, it’s just that it mostly represents spurious analytical activity in the increasingly manic trend toward over-explaining countertrend transience.
Anyway, in reviewing the retreat in Builder Confidence in July on Tuesday, we offered the following:
The two month retreat in SF starts is also notable but similarly un-extraordinary. A choppy, stair-stepping higher has characterized the pattern of advance across both SF Starts and NHS since 2012. And with demand strong and rising and supply side issues the principal constraint to accelerating volume growth, ‘if-you-build-it-they-will-come’ remains the apt industry mantra. We’ll more seriously consider a shift in outlook should the backslide in SF starts/permits persist in Jun/July.
[We got the June Starts/Permits data yesterday]
Total Housing Starts in June rebounded, rising +11.2% sequentially against unrevised May estimates (June was +8.3% M/M against the +2.7% positive revision to May). Single-family Starts activity – which continues to rise and buttress the headline alongside ongoing deceleration in MF activity – was up +6.3% sequentially and accelerated to +10.3% Y/Y. At the current +849K we’ve moved back to the highs of the cycle.
Conclusion: Demand is strong, supply remains tight and prices are accelerating. That is a fundamentally positive industry backdrop. While crawling improvement will continue to characterize supply on the existing side and rising costs and other supply side constraints may continue to curtain large-scale inventory increases in the new market, the primary effect will be on HPI … and with affordability, nationally, still favorable, HPI has some runway for further acceleration before it begins to really feedback negatively on demand. And if we look at the longer-term setup, the upside in new construction activity remains about as asymmetric as it gets in macro, particularly at this point in the cycle.
The annotated long-cycle view of New Construction activity can be seen in the Chart of the Day below
Now, not too many people know this but if someone isn’t into wheel metaphors, they generally have a soft spot for pendulum analogies … which is kind of odd since a pendulum is basically just an incomplete wheel with an equal proclivity for periodicity.
Anyway, the mother is merciful and it just so happens I have a similarly Stark pendulum analogy in pocket.
Regulatory policy, particularly in housing finance, tends to function like a pendulum - swinging too far in one direction (too loose into 2005/06), then the other (too tight into 2014 and implementation of QM regulations) while never quite managing to fall idly on center.
Two recent developments provide tangible evidence that the regulatory pendulum is swinging away from excessive tightness, bringing improved prospects for further credit box expansion and rising mortgage credit availability:
#1: Fannie Mae Raises the Debt-To-Income Ratio
Fannie Mae recently announced that it would be raising the ceiling on the back end debt-to-income (DTI) ratio from 45% to 50% on July 29, 2017. Since mortgage applicants with material student loan debt are most often rejected because their back-end DTI ratio exceeds allowable levels, this could provide a boost in home purchases by American’s with a high relative level of student loan debt.
The Federal Reserve has reported that exceeding the DTI threshold was the number one reason that mortgage applicants were denied for a loan in recent years. According to the 2015 survey, 23% of applicants saw their mortgage applications denied (conventional and nonconventional loans) because their debt-to-income ratio was above the mandated limit.
We analyzed the impact that raising the DTI to 50% would have on housing affordability and student loan capacity in our recent 3Q Housing Themes presentation. Specficially, we found that increasing the back end DTI ratio from 45% to 50% would enable a potential homebuyer to afford either a 15% more expensive house or carry a 123% high student loan burden. While a 5% DTI bump may not sound like much, enabling a borrower to shoulder more than 2x the level of student loan debt is a very material easing of the underwriting pendulum.
In a separate analysis, the Urban Institute - who does good work in housing policy research -found a similar magnitude of impact, estimating the change will allow for an annual increase of +95K in new mortgage approvals.
#2: Changes to FICO's Credit Score Methodology
The recently announced credit score methodology change by Fair Isaac Corporation (FICO) removed tax liens and civil judgements from credit scores beginning July 1, 2017. The change will result in roughly 12 million Americans seeing their credit scores increase, and per our analysis, will propel 500-600K borrowers above the 620 threshold that is needed to be eligible for a GSE loan.
The numbers aren’t huge but a couple hundred thousand in new mortgage originations on a base of ~3.5-4 million isn’t inconsequential. And it’s the direction of the pendulum swing towards easing that’s most consequential from a medium-term perspective.
Winter will come for House Bull, but not today.
Our immediate-term Global Macro Risk Ranges (with intermediate-term TREND views in brackets) are now:
UST 10yr Yield 2.25-2.33% (neutral)
SPX 2 (bullish)
RUT 1 (bullish)
NASDAQ 6 (bullish)
VIX 9.01-11.10 (bearish)
EUR/USD 1.13-1.15 (bearish)
GBP/USD 1.28-1.31 (bullish)
Oil (WTI) 43.68-47.70 (bearish)
Gold 1 (neutral)
In the meantime, Winter is (Still) Trumping (it never gets old, enjoy).
Christian B. Drake
U.S. Macro Analyst
