It's All About Housing

As I was sitting here looking at the calendar, I noticed that next week brings us to the end of March…and then it dawned on me that we’re already staring at the end of the first quarter. Simply amazing, where does the time go? It was a fairly uneventful day as there wasn’t much in the way of data to interpret or any market moving events, so most assets remained in a relatively tight range. I guess I should quit stalling and jump right in.

While only a handful of the major economies had any economic reports hit the airwaves yesterday, the US only had a couple of minor events. As I mentioned yesterday, the FHFA house price index (Federal Housing Finance Agency) was expected to re-affirm housing data that we saw a couple of days ago that didn’t show any bright spots. We saw the same disappointing data as prices came in below expectations by falling 0.30% from December and 3.9% from this time last year.

This data measures transactions of homes financed with mortgages backed by Fannie Mae or Freddie Mac. It was the same old rhetoric as to the cause, which would be foreclosures remaining at high levels that add to the already high supply of homes in the market. The fact that about 23% of homeowners with mortgages had negative equity in the fourth quarter acts like concrete shoes that’s keeping housing submerged. That is awfully close to 1 in 4 mortgages being underwater.

We also had manufacturing in the Richmond Fed district slow quite a bit more than expected, down to 20 from a figure of 25 back in February. Manufacturing has remained one of the few bright spots here in the US, but I guess last month was tough in that region. Maybe it was the weather, but in either case, this can be a volatile report so no need to spend much time on it.

We have a couple of things to look at this morning as weekly mortgage applications and new home sales are released. The mortgage application report can be all over the place and is highly sensitive to interest rates, so looking back to where the 10-year yields were trading, I would say look for a higher figure. While this does provide some insight as to expressed demand for a refi or purchase, there are many other reports that provide better data.

One of those reports would be the new home sales figures that we’ll also see out this morning. Again, same old story. Mounting foreclosures are causing problems as cheaper priced distressed homes that have been previously owned detract from sales of brand new homes. Builders have also cut back on the new home supply so home construction should remain on the low side. I think the majority of homebuilders aren’t very hopeful that 2011 is going to turn out much better than 2010.

The best performing currencies on the day were again the commodity currencies. While gold and silver didn’t do much of anything, they did stay on the high side as gold was trading around $1,425 and silver around $36.30 when I was packing my things to go home last night. Any increase in the Middle East tensions would look to be short-term price drivers.

Moving over to oil, we did see this commodity move higher on the day. While we currently have two cooks in the kitchen, which would be the tensions in Libya/Middle East and events in Japan giving direction, prices ended the day at $104. Increasing optimism out of Japan sent oil higher, as the markets looked past current events and more toward the rebuilding stages, which would boost demand for many commodities. Reports are also out that Japanese refineries are processing more oil that previously expected.

The dollar index traded in a tight range as it remained in the mid- to low-75 handle, bouncing from the low of 75.25, and held steady at the lowest levels since December 2009. Since the euro (EUR) accounts for a big proportion of the dollar index, the exchange rate hovering around 1.42 was certainly a contributor. Since risk tolerances have been rising, it looks as though the markets are seeking higher yielding currencies or economies where rates are at least in a position to rise.

One of the other nations that had some economic data to talk about was South Africa, whose rand (ZAR) appreciated the most on the day. Its 0.70% rise against the dollar was due to the fourth quarter current account deficit falling to the lowest level in seven years. The deficit fell to 0.6% of GDP from 3.1% in the third quarter and has narrowed from a figure of 7.1% in 2008. This has been a point of contention along with an overall unstable fundamental base as a whole for investors for quite some time.

I guess the big question mark now deals with the sustainability of this going forward. A closer look at the numbers show us that export volumes actually slowed in the fourth quarter, but its value rose by 5.5%. Couple that with import volumes shrinking for the first time in over a year as economic demand slowed, and we get the significant move that we saw. While it was positive news and is better than the alternative, we still see too much risk associated with the rand.

While the Australian (AUD) and New Zealand (NZD) dollars finished in second and third place respectively, the other currencies that did end the day on the positive side were all lumped together. Moving on to the United Kingdom, we saw inflation surprise on the upside and the pound (GBP) trade up to 1.64 for the first time since January 2010. The higher inflation has investors speculating as to when the BOE will finally raise interest rates. Economists were starting to price in a rate hike as soon as July instead of the previous estimate of August.

The CPI for February rose to 4.4%, which was higher than the estimate of 4.2% as well as the January figure of 4%, and represents the fastest pace in over two years. Consumer inflation is now more than double the government’s 2% target, and with commodity prices continuing to rise, there doesn’t seem to be much relief. Retail price inflation, a measure of the cost of living used in wage negotiations, rose to 5.5% and marked the fastest rise in almost 10 years. The UK is in a tough position because something has to be done about inflation but the economy isn’t exactly in a place to deal with higher interest rates.

Looking at one of the currencies that actually lost on the day, the Canadian dollar (CAD) had mixed results from their economic reports yesterday. We saw February leading indicators surprise on the upside by rising 0.8% to a nine-month high which was led by higher stock prices and manufacturing. The disappointment was the result of January retail sales as the aggregate figure and the measure less autos came in lower than expected.

If we take automobiles out of the equation, retail sales actually broke even from December, but it was still disappointing. The fact that oil was higher on the day helped limit the loss yesterday to around 0.25%. As I mentioned at the beginning, most of the currencies remained in a tight range all day, so I think investors will want to see more reports to get a better gauge of where the Canadian consumer actually stands.

Other than that, we had some trade figures from Switzerland that came out as well. The trade surplus widened to $2.8 billion in February as exports rose 4.2% due to higher demand from Europe and the Asian economies. As always following a positive report, we had the SNB making statements that downplayed the economy in an attempt to bring less light to the situation and hopefully make investors think twice about buying the currency. I wouldn’t say it’s working very well as the franc (CHF) trades at 7-year highs.

As I came in this morning, there really wasn’t any direction either way in overnight trading as everything is sitting where I left them last night. The Swiss franc has seen about a 0.50% gain and has risen the most against the dollar, so it looks as though risk aversion might pick up today. Other than that, the pound sterling is bringing up the rear so far today as the BOE minutes were released from their last meeting and showed policy markers voted 6-3 to keep rates on hold so thoughts of an imminent rate hike have subsided for the moment.

To recap… We had more housing figures yesterday, which was yet another report showing a decline in home prices, and we get to see the colors of February new home sales today. The commodities, led by oil, continued to pull the currencies along for a ride and the dollar index traded in a very tight range. The South African current account deficit narrowed by the most in 7 years, British inflation now lies at more than double their target, and Canada has mixed results.

Mike Meyer

for The Daily Reckoning