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Waller’s Plan, Oil Cooperating, and Bonds Improving

October 15, 2024
Floating
Fed Governor Christopher Waller is one of the more influential Fed members. He is a voting member and is considered a leader within the Fed. He spoke yesterday and laid out three possible scenarios for the economy, as well as his plan.

Stocks are mixed and Mortgage Bonds are higher to start the week. The 10-year is down 5bp to 4.05%, testing an important floor of support at the 100-day Moving Average.

Helping Bonds this morning was news out of Israel – Oil prices are very important for inflation and filter their way into everything. Oil has been on the rise as it was thought that Israel may retaliate against Iran and strike their oil refineries, which would limit oil supply. Recently, however, Israel told the US that it will limit the Iran retaliation to military targets, not oil or nuclear ones. As a result, oil price are down about 10% over the last few days and the Bond market is rallying.

The US economy has been bifurcated – There are some sectors that are performing well and others that have been weak and clearly in a recession. One of the weak sectors has been manufacturing…and the weak data in that area continues.

The Empire State Manufacturing Index, which shows the health of manufacturing activity in the NY region, was expected to rise 3 points in October, but instead it fell by almost 12 points. This was much weaker than expected and shows that manufacturing continues to be in recession.

Fed Governor Waller Comments

Fed Governor Christopher Waller is one of the more influential Fed members. He is a voting member and is considered a leader within the Fed. He spoke yesterday and laid out three possible scenarios for the economy, as well as his plan. Here are the scenarios:

  1. The overall strong economic developments continue, with inflation nearing the Fed’s target and the unemployment rate moving up only slightly. In this scenario, the Fed can proceed with cutting rates to a neutral stance on a deliberate path.
  2. Inflation falls materially below 2% for some time, and/or the labor market significantly deteriorates. In this scenario, the Fed would suddenly be behind the curve and would have to cut rates more aggressively. He did say that this was a less likely scenario.
  3. Inflation picks up again and the labor market does not deteriorate. If this occurs, the Fed can pause rate cuts until progress resumes and uncertainty diminishes.

His base case scenario is the first one, where inflation continues to move towards their goal and the unemployment rate only rises slightly. He feels this is most likely and if this scenario plays out, he thinks the Fed can cut rates 1.5% more by the end of 2025, which was the Fed’s projection on the Dots Plot chart at their September 18 meeting. This would bring the Fed Funds Rate from the current level of 4.75% to 5% down to 3.25% to 3.5%.

The Fed’s next meeting is November 7 and the two week period leading up to the meeting is action packed. The Fed will have a lot of data to chew on, including the October 31 Personal Consumption Expenditures (PCE) inflation report, the October ADP Employment Report, October BLS Jobs Report, and the November 5 election. The Fed can change their minds quickly depending on the data, so the results of the aforementioned reports will be critical and will likely set the course for interest rates for quite some time.

News This Week

Wednesday: Mortgage Applications

Thursday: Retail Sales, Initial Jobless Claims, NAHB Housing Market Index

Friday: Housing Starts and Permits

Technical Analysis

Mortgage Bonds have been trading sideways over the past week and attempting to stabilize after a sharp decline following what appeared to be a very strong BLS Jobs Report for September. Bonds appear to have found their footing and have tested but remained above important support at 100.18. Bonds are now trying to move higher and have a lot of room to do so until reaching the next ceiling at the 50-day Moving Average, over 55bp above present levels.

The 10-year was on a 7-day streak of closing higher than the previous trading session, brining yields all the way up to 4.12%, which is the 50% Fibonacci retracement level. Yields held at this level and are now reversing lower, breaking beneath the 100-day Moving Average for now. If this move can be confirmed, there is room to improve until reaching 4%.

Looking at the Stochastic charts on both MBS and the 10-year, MBS are oversold and at the beginning stages of a positive Stochastic crossover, while yields are overbought and beginning to form a negative Stochastic crossover…both of which would cause momentum to be on our side and cause higher Bond prices and lower yields ahead.

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