Spotlight on Oil
MBA (7/21/2008 ) Velz, Orawin
Oil and other energy prices played a major role last week. The June Consumer Price Index surged 1.1 percent, posting a year-over-year gain of 4.9 percent, the biggest since May 1991.
The Producer Price Index jumped 1.8 percent in June from the previous month and 9.1 percent from last June, the largest year-over-year gain since June 1981. Energy prices were the main culprit for both strong retail and wholesale headline inflation.
The effect of rising energy prices was also evident in June retail sales, which rose only 0.1 percent, despite a 4.6 percent jump in sales at gasoline stations as gas prices soared. For the second quarter, retail sales grew 2.6 percent, the slowest quarterly pace since the fourth quarter of 2002. The published retail sales data from the Commerce Department are adjusted for seasonal factors but not for inflation. Using the goods component of the CPI to adjust for inflation, retail sales declined in the second quarter.
A separate report last week from the Bureau of the Labor Statistics showed that incomes are not keeping up with prices. Inflation-adjusted average weekly earnings fell 0.9 percent in June from May and were down 2.4 percent from last June. Manufactures also reported sharp increases in the prices they paid for inputs, according to the Philadelphia Federal Reserve manufacturing survey, which showed that the price-paid index rose to its highest level since 1980.
On Wednesday, the Fed released the minutes from the Federal Open Market Committee (FOMC) meeting on June 24-25, which showed that some members believed that downside risks to growth had diminished while the upside risks to inflation had increased. These members argued that a rate hike “would be appropriate very soon.”
In his semiannual Monetary Policy Report to Congress on Tuesday and Wednesday, Fed Chairman Ben Bernanke confirmed the inflation view in the FOMC minutes, noting that upside inflation risks have “intensified,” given elevated energy and commodity prices and the declining dollar. Bernanke was especially concerned that potential pickup in inflation expectations may lead to wage increases during the “wage- and price-setting process.”
However, Bernanke did not reiterate the view in the FOMC statement that downside risks to growth have diminished. Instead, he argued that there are “significant” downside risks to growth outlook, due to the possibility of higher energy prices, tighter credit market and a deeper housing decline.
Good news for the week was the sharp drop in crude oil futures: about $16 in three days, bringing the price below $130 a barrel on Thursday for the first time in more than a month. Crude rebounded slightly on Friday, hovering around $130 a barrel. Declining crude prices spurred some hopes that headline inflation will moderate in the coming months, making it easier for the Fed to keep interest rates on hold for some time. Fed funds futures showed about a 40 percent chance of a 25 basis-point increase in the target rate in September.
Finally, housing news continued to be downbeat. Single-family housing starts declined in June to the lowest level since January 1991. The surge in multifamily starts reflected a rush to start building activity before more stringent local building code changes took effect in New York. Home builders were more pessimistic in July in the face of weakening job markets, rising energy prices and declining home prices, according to the National Association of Home Builders/Wells Fargo Housing Market Index, which declined to a record low in the 22-year history of the survey.
Stock markets rose and lifted major averages from bear market territory, driven by gains on financial stocks including Wells Fargo, JPMorgan Chase & Co. and Citigroup, which released better-than-expect financial reports. In addition, declining crude oil futures extended the equity market rallies. Treasury prices declined and yields rose as investors’ risk appetite increased, making the safety of government bonds less attractive. The yield on the 10-year Treasury note stayed around 4.06 percent by mid-Friday afternoon, 10 basis points higher than the rate on the previous Friday and the highest rate in three weeks.
US Economy May Avoid Recession But Slow Growth Seen
Reuters (07/21/08); Morrison, Joanne
The problems in the housing market and tighter credit continue to have a negative impact on U.S. businesses, according to the latest quarterly survey from the National Association for Business Economics. However, only 29 percent of respondents for the June 19 through July 10 survey expect the housing market to slow down significantly over the next six months, compared with 45 percent in April. Companies are facing higher material costs that will cut into their profits; but, overall, economists are more optimistic about the economy than they were in the April survey.
States Act to License Originators of Loans
Miami Herald (07/21/08); Haggman, Matthew; Barry, Rob
Over the past three years, more than a dozen states have passed laws requiring all mortgage professionals, except those who work in banks, to obtain a license. And some bar convicted felons from selling home loans, via such laws as one Colorado passed this year. The move to create minimum standards, including criminal background checks and exams, for originators was prompted by the growing mortgage fraud crisis. “The guy who owns the company was licensed, but the people who get the confidential information, who meet with the borrower, who originate the loans are not,” Illinois mortgage regulator Dean Martinez says of the situation in his state, where about 15,000 of 25,000 applicants have been approved following the 2003 passage of a law requiring loan originators to be licensed and pass background checks.
Trouble at Fannie and Freddie Stirs Concern Abroad
New York Times (07/21/08) P. C1; Timmons, Heather
As of the end of this year’s first quarter, roughly 20 percent of securities issued by Fannie Mae, Freddie Mac and a few smaller quasi-governmental agencies were held by foreign investors, meaning that one out of 10 American mortgages is essentially owned by institutions and governments not based in this country. Now that the two big government-sponsored enterprises are faltering, analysts note that how their bailout is handled will ultimately test American markets in the world view and could have an effect on the level of interest rates and the strength of the dollar for years to come. This is why Treasury Secretary Henry Paulson Jr. is pressing Capitol Hill legislators for the power to inject billions in cash into either GSE or both. Paulson is betting that congressional lawmakers will overcome their hesitancy to give his office a de facto “blank check” to avoid the repercussions of doing nothing to save Fannie Mae and Freddie Mac.
Fannie, Freddie Still Favorites in Some Funds
Investment News (07/21/08); Benjamin, Jeff
Although Fannie Mae and Freddie Mac’s stock prices have taken severe hits in recent weeks, several mutual funds continue to hold the securities. For instance, the Fidelity Select Home Finance Fund had a 23.6-percent combined weighting in the two government-sponsored enterprises as of the end of May, while the MSCI U.S. Investable Market Thrifts & Mortgage Finance Index continues to have a 44-percent weighting in them. Shares of Fannie Mae and Freddie Mac have declined a whopping 76 percent since Jan. 1 and lost 52 percent of their value during the first two weeks of this month. Clinton Struthers, president of Struthers Financial Services, states, “You can’t have loose lending practices and soaring real estate prices and not expect some kind of a problem.”