Morning Report: The labor market is weakening

Vital Statistics:

Stocks are lower this morning as earnings continue to come in. Bonds and MBS are down.

Job openings were 9.6 million at the end of July, according to the JOLTS report. Hires decreased to 5.9 million, with losses experienced in finance and manufacturing. The quits rate, which tends to forecast wage inflation, decreased to 2.4% from 2.6% in June and 2.7% a year ago. This is evidence that the US labor market is weakening.

The manufacturing economy continues to contract, according to the ISM Manufacturing Report, albeit at a slower rate. The ISM Index ticked up in July compared to June, but is still below 50 which is considered neutral. New Orders improved, and pricing pressures continue to fall. Supply delivery times decreased. Overall, the news on pricing should be good for the Fed, as it looks like the tightening policy is having the desired effect.

Homebuilder LGI Homes reported second quarter numbers, with new orders and backlog improving smartly. The company raised guidance for the year as well. LGI has changed its focus to smaller homes, which has helped the affordability issues. Average selling prices fell 2% which helped propel a 124% increase in new orders. Gross margins improved on a QOQ basis but are still down big YOY.

Some good news for MBS spreads. Mortgage REIT Two Harbors reported earnings and said that the volatility has decreased. “In the second quarter, many of the unknown variables in the market were resolved. Congress passed a resolution on the debt ceiling, inflation expectations and the Fed path of rate hikes appeared well contained, and the market readily absorbed the supply of RMBS being auctioned by the FDIC,” stated Bill Greenberg, Two Harbors’ President and CEO. “This led to lower volatility, which supported positive performance in our portfolio, while spreads remained at historically attractive levels.”

Mortgage REITs like Two Harbors are the buyers of mortgage origination. Lower volatility means that mortgage rates should continue to decrease relative to movements in the 10 year bond. His point about spreads remaining at historically attractive levels means that mortgage rates have the potential to fall further.

One big influence on rates will be the developments in Asia, particularly Japan and China. On one hand, Japan is loosening its iron grip on Japanese Government Bond yields, which will will mean higher rates at the margin in the US. On the other hand, China’s real estate bubble has burst, and this will send a strong deflationary pulse throughout the world. This will work to move rates lower. I talked about this in my weekly substack piece, linked above.

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