This newsletter is a synopsis of a continual series of updates by a market analyst Mark Meldrum. Mark Meldrum is a CFA that provides weekly updates on the market, but they tend to be an hour long. Here is a synopsis of his video found here.
Nominal Rates & the Fed
Some sanity seems to have returned to the market. Jerome Powell made it very clear that we likely have 50 more basis points (bps) in rate hikes still to come this year, and the market seems to be listening. Short-term money market rates have all squeezed out small gains for the week.
There’s been some confusion around money market funds. In the last two weeks, Bloomberg has reported money flowing out of money market funds, estimating money is making its way back into equities. But the Treasury is now issuing T-bills again—in the past, if investors wanted to get into T-bills, they had to put their money into a government money market mutual fund to access them. Now, investors have direct access through government issuance. In total, money market fund assets fell by $18 billion for the week ending June 21, but this doesn’t mean money is out of the money market; it’s just flowed to another part of this sector. This is an important distinction because money is still flowing outside of equities and finding shelter in alternatives, as it’s been doing for weeks.
The next FOMC meeting is about a month away on July 26, and FedWatch shows a high likelihood of a 25 bps rate hike at this next meeting. And projections for the December 14 meeting finally reflect a 6% rate range. The likelihood is incredibly low at 1%, but it’s the first time a range this high has appeared as a possibility. Canada releases their May CPI and PCE reports this week, both of which will likely influence American markets. This is because Canada’s economic shifts can help us predict our own in nearly every sector.
We’ve mentioned lags in the last few weeks. In short, lags could be felt up to the next two years before reaching a plateau, but Meldrum believes we’ll reach the plateau within a year.
Real Rates, Federal Funds Rate, and TLT
Still minimal movement in real yields.
Federal fund futures (FFF) continue to flatten out and it should continue to throughout the year, so long as nothing significant breaks in the economy.
TLT, the major long-term bond ETF index, squeezed out another small gain of 71 bps.
Housing & OAS
Still not much to see on the Options Adjusted Spread (OAS), and until something changes, not much to report here… The Primary Mortgage Market Survey shows 30-yr. Fixed Rate Mortgages (FRM) are at 6.67% (down just 2 bps from last week) and 15-yr. FRM are at 6.03% (down 7 bps from last week).
- Mortgage applications are up 0.5%
- Refinances are down 2.07%
- Purchases are up 1.47%
Home developers reported another week of gains and look at this—the year-to-date gains (shown in purple with parenthesis) are staggering!
Housing has been a market we’ve been looking at closely in recent years because it’s demonstrated a basis for a solid long-term investment. But so much is being priced in so fast (higher interest rates, higher home prices, higher supply of new homes vs. existing homes), it’s reasonable to feel uncomfortable with these types of gains. Rather than behaving like a long-term investment, its accelerated and steady growth implies some investors may want to cash in on their gains. From a basic investment standpoint, this would be a bad time to enter the market at such highs only to suffer an inevitable fall. And remember, from the Fed’s standpoint, a strong and steady housing market indicates that the market is thriving at a potential new normal, so the argument in favor of any rate cuts goes out the window when we see this kind of growth.
REITs
Multifamily property values have dropped significantly in the US and in Canada, which is surprising because the growth in rents in Canada are up to new highs. In Ontario, Canada, rents are up 30% year-over-year. And the migration to online continues as companies like Amazon and Target shift capital from retail space to logistics or warehouse space. The convenience of online ordering, a habit most people firmly formed during the pandemic, persists and increases the need for companies to meet the demand of their online consumers. This is why retail and office space are the sectors which are mostly feeling the post-pandemic blues and present the highest level of risk to investors.
For office REITs, here’s the likely outcome: when they have to rollover their debt, they may find a bank or private lender who’s willing to do it, but they’re guaranteed to get shareholder dilution; depressed prices means they’ll have to issue a lot more shares to re-coup those losses. Keep in mind that the two biggest shifts we’re experiencing in our society are 1) how we shop and 2) how we work. We’re seeing those effects accordingly in the office and retails sectors of commercial real estate.
Via a website called Greenstreet, we can track these changes through the Commercial Property Price Index (CPPI). Below is a graph tracking the various sector-level indexes on a year-over-year basis for the last seven years:
CAD & Copper
Some highlights from Canada:
- Bank of Canada expected to cap their “rate hike campaign” at 5%
- The Canadian dollar grows stronger against the US dollar
- Forecast for real GDP growth in Q3 and Q4 are both negative, signaling a technical recession
- Canadians report having more household debt than Americans, and their debt is far more sensitive to interest rates because of the nature of the Canadian mortgage market.
The two standard mortgage terms are 15-year and 30-year. In Canada, you can get a 5-year mortgage, based on a 25-year amortization. This requires homeowners to renew their mortgage every 5 years. And Canadian homeowners have a larger percentage of floating rate mortgages than the US, which underscores their heightened sensitivity to interest rates.
Copper is a bit under pressure because it’s so intrinsically tied to sectors like housing, electronics, and heavy equipment; fluctuations in demand within these sectors influences copper. China in particular has had a major influence over the path of copper in the last two years.
Final Takeaway
Is AI overhyped? Are companies overvalued? With two anticipated rate hikes, stock prices that may not be justified, leading indicators dropping again, lowest unemployment in 50 years, money supply draining, and with energy and materials trading down, everything points to a recession. So why is it that the market isn’t reflecting the matter? Could it be that companies are squeezing the AI hype to their advantage? Are they squeezing the last penny out of the accounting practices? Meldrum is hinting that if companies want to keep showing higher earnings, their next step needs to be cutting costs. This includes layoffs. This will cut off consumer spending. And eventually get into a recession. People are hanging onto to the good news, while ignoring the rest. However, the market can’t hide the reality forever, can it?
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