Pandemic In The Driver’s Seat As Banks Could Fail Fed’s Stress Test
The COVID-19 pandemic continues to be the strongest driving force behind Wall Street. This week a spike in reported cases, combined with another higher-than-expected initial unemployment claims report, drove markets downward. The Dow Jones suffered a 700-point loss on Wednesday’s reports of new cases, while futures were stymied due to Thursday’s unemployment numbers.
More than 1.48 million Americans filed initial unemployment claims over the last week, according to the Labor Department. That number was higher than the 1.35 million expected by economists. Initially, futures dropped on the news. However, equities rallied back mid-day to close up over 1% for the day as continuing jobless claims–unemployment claims for at least two weeks in a row–went down by more than 700,000.
The other force helping push markets higher on Thursday was an announcement about easing bank regulations. Bank stocks rallied across the board on Thursday morning after United States regulators announced they would make it easier for banks to invest in some riskier avenues, such as venture capital funds. Banks also no longer have to build up significant cash safeguards against certain derivative trades.
Banks were also the onus of the Federal Reserve this week. On Thursday the Fed imposed harsher restrictions on banks after the group’s annual stress test showed that many banks could come dangerously close to minimal capital scenarios. Beyond that, for Q3 the Board is “requiring large banks to preserve capital by suspending share repurchases, capping dividend payments, and allowing dividends according to a formula based on recent income. The Board is also requiring banks to re-evaluate their longer-term capital plans.” Also, for the first time, banks are going to have to resubmit their payout plans at the end of the year.
After the announcement, bank shares–which had surged early in the day–sank back with Wells Fargo falling back 3.3% and Goldman Sachs dropping 3.9%.
Futures were flat following the release of the Fed’s stress test. Early Friday the 10-year Treasury note yield was trading around 0.669%
The volatility of the short-term economic outlook has contributed greatly to the increasingly negative long-term outlook for both the U.S. and world economies. This week the International Monetary Fund (IMF) downgraded its global gross domestic product outlook to a 4.9% contraction instead of a 3% contraction. “The Covid-19 pandemic has had a more negative impact on activity in the first half of 2020 than anticipated, and the recovery is projected to be more gradual than previously forecast,” the IMF said in its statement.
The IMF also projected a growth rate of 5.4% in 2021; a decrease from its 5.8% prediction earlier this year. These revisions were made because, as we are seeing this week, increased infection rates are giving pause to many economic reopening plans. Therefore the IMF feels economies will see gains slow down.
In the United States, the IMF predicts an 8% contraction in 2020. That is actually on the low end of GDP contraction predictions with the euro zone coming in at a whopping 10.2% contraction predicted, with Brazil and Mexico predicted to contract by 9.1% and 10.%, respectively.
But the larger issue on hand for the IMF is debt. With unemployment still soaring, and families unable to make ends meet, there have been massive government fiscal relief plans put in place to support the populous. If you look at the group’s base case, global public debt will reach an all-time high in 2020 and 2021 at 101.5% of GDP and 103.2% of GDP, respectively. The average overall fiscal deficit is set to hit 13.9% of GDP this year. That’s a full 10 percentage points higher than in 2019.
Purchases On The Rise; So Are Forbearances…Sort Of.
An interesting mix of data this week could leave you questioning where we are currently with forbearances. According to the Mortgage Bankers Association’s data, for the first time since March we are seeing the number of home loans in forbearance go down. The latest survey by the MBA showed the percentage of loans in forbearance go from 8.55% to 8.48% last week.
Loans backed by Ginnie Mae (FHA, USDA, VA) are still the highest share of loans in forbearance with more than 11%. It should be noted that before the COVID-19 pandemic, just 0.25% of home loans were in forbearance.
Friday morning, mortgage data and technology firm Black Knight released its report saying forbearances have gone up from 8.7% to 8.8% of active mortgages. In total, the loans in forbearance equal about $1 trillion in lost principal for those backing the loans. If you look at just this week’s totals, the strain on servicers is rough. According to Black Knight’s report, servicers would need to advance about $5.7 billion per month in interest and principal to the holders of government-backed mortgage securities.
While more homeowners are able to exit forbearance, potential homebuyers are taking advantage of the incredible low interest rate environment. The latest existing home sales data from the National Association of Realtors shows that sales were down 9.7% in May compared to April, and down more than 26% year-over-year. However, you have to keep in mind that the data deals with closed sales in May that had contracts signed in April or March. Those two months bore the brunt of the pandemic. That’s why the NAR believes that the next batch of data for June will be much better.
“Well into the month of June, I think people are much more relaxed, knowing that there is a massive stimulus package in the economy,” said Lawrence Yun, chief economist for the NAR. “I am very confident that this will be the cyclical low point. Buyers are coming back and listings are coming back.”
The chart below from CNBC gives you a better idea of the trajectory of home purchases compared to 2019.
Keeping the buyers, and refinancers, happy are the incredibly low rates. This week’s Freddie Mac 30-year fixed-rate mortgage average stood pat at 3.13%–the lowest average in the history of Freddie Mac’s reporting going back to 1971.
However, the latest data from the MBA shows that purchase and refinance applications were both down week-over-week. Joel Kan, the MBA’s Associate Vice President of Economic and Industry Forecasting, says that could be due to a battle between pent up demand and lack of inventory.
“Even with high unemployment and economic uncertainty, the purchase market is strong. Activity has climbed above year-ago levels for five straight weeks and was 18 percent higher than a year ago last week,” says Kahn. “One factor that may potentially crimp growth in the months ahead is that the release of pent-up demand from earlier this spring is clashing with the tight supply of new and existing homes on the market. Additional housing inventory is needed to give buyers more options and to keep home prices from rising too fast.”
**We will not have a market report next Friday due to the July 4th holiday.
Contributed by Greg Richardson, MAXEX Managing Director
Greg Richardson is Managing Director at MAXEX, LLC, based in Atlanta, GA. He has 30 years of experience in capital markets, including trading, banking asset and portfolio management, mortgage banking secondary marketing and accounting. MAXEX is the only platform in the mortgage industry to offer a centralized clearinghouse that enables buyers and sellers to trade anonymously with multiple counterparties using a single standardized contract.