Ok, almost 8 weeks ago some schmuck reached his hand into a groundhog den, roused him from his slumber only to tell us we can expect 6 more weeks of winter. Well, we are two weeks past that deadline here in Minnesota. On March 7, I shared how March came in like a lamb with mild but cold weather for the first week of the month. I worried about the ferocity of the lion that might end the month. In the past that has often meant warmer, stormier weather, like upper 70’s warm. This coming week looks more like February than April. We are expecting snow, wind and cold. My opinion, we need to post a guard around Punxsutawney Phil’s den and just leave the poor guy alone.
On March 16 the Fed Funds rate rose from .06% to .33%, a rise of a quarter point. The Fed Funds rate is what banks are charged to borrow from the Fed. Right now, with the plethora of deposits, few if any banks are borrowing from the Fed. However, the increase will be passed on to borrowers using short term debt.
This short-term rate bump was a clear sign to the market, the Fed is concerned about inflation and is on a path to try to normalize the bond markets. Beyond moving the Fed Funds rate, you can see a change in the amount of stimulus buying in the Treasury markets. The Treasury Bonds are sold and traded, supposedly at market rates. Bonds are offered on the market and buyers will hold off until the auction price, interest rate, reaches a level they are willing to receive for the investment. The issue since 2008 has been that the Fed has slipped their thumb on the scale and has bought up unsold Treasury Bonds to keep long term government borrowing rates lower than would otherwise have occurred. This allowed much more cash to be circulating creating an economic stimulus era that stretched out longer than any prior historical period. Prior to March 11, the 10-year Treasury Rates were meandering upward towards the 2% mark. By March 25 the long-term rate rose a half percent to 2.48%. For 2022 so far, the rate has run up a full percent. A clear sign that the Fed is cutting back its purchases allowing the market to push the rates up. The question is how much will the Fed allow long term rates to rise?
The mortgage industry as well as the bond markets are struggling with this question already. Beyond the astronomical housing prices limiting affordability, there is a concern that higher rates will only exasperate the ability of borrowers to purchase the house they want. Mortgage rates are now pushing 4.5%, dropping mortgage applications in the past week by over 8%. With applications down there will be a ripple effect on new construction. This will lag and unfortunately will likely create a glut of housing on the market in both single family and multifamily units that are currently under spec construction. Expectations are that the housing market will show signs of weakness in about 6 months.
Both crude oil and gasoline inventories fell hard in the past week. Demand is rising as travel is heating up. In particular people are returning to the office as most pandemic restrictions are being removed. Not everyone is returning to the office, but enough to drive the energy supplies down.
The good news this week is in manufacturing. The Richmond Fed Manufacturing Index for March rose from 1 to 13, with strong numbers throughout the report. The Kansas Fed Manufacturing Index was even better, moving from 31 to 46. The indications are that some of the supply chain issues are starting to abate so manufacturers are catching up. The automotive sector in particular is very strong.
The really good, long-term news, is that the manufacturing sector is starting to finally on shore more production. This takes some time as companies need to gear up, hire, bring in new equipment, even build new plants. That process appears to have started late last year and is now gaining traction. Many banks I am talking to are seeing a strong uptick in borrowing requests for robotic equipment, expansion and new facilities to increase production. They are getting orders from firms that had been buying overseas. The on-shoring trend will continue as issues with the supply chain over the past two years, not to mention unreliable partners, are causing many firms to re-think the trade business model.
Have a great week.