Note: I am travelling in Asia until April 24. Limited equipment and different time zones will limit the frequency and depth of my postings.
Enjoy Cheaper Rent While You Can. It Won’t Last. Lots of new units hitting the market helped stabilize things this year, but there’s already reason to worry again.
(…) Groundbreakings for new apartments are down 35% from a year ago as high-construction metros such as Austin and Atlanta see rents decline. Building activity is also being held back by onerous funding costs and the muted stock performance of apartment REITs such as AvalonBay Communities Inc. and Camden Property Trust. This is in sharp contrast to a few years back when rents were surging, interest rates were low, and investor enthusiasm for REITs pushed some stocks up by more than 50% in 2021. Such favorable conditions meant the number of apartments under construction climbed pretty consistently to a record high last summer, ensuring that completed units will keep hitting the market over the next year or so.
But the elevated supply is now being met with a pickup in demand. Carl Whitaker of RealPage, a housing analytics firm, notes that the first quarter of 2024 was the strongest for net apartment absorption since the 2021 pandemic-related boom. The online marketplace Apartment List has shown rent growth stabilizing in recent months as well, suggesting that supply is still keeping a lid on rents, but it is no longer putting as much downward pressure as was the case a year ago.
Apartment demand is likely up for a few reasons. As with most goods and services, renters are responding to lower prices. Austinites, for example, who found roommates over the last few years due to surging rents now have an easier time affording their own places after the recent drop. Additionally, the continued lack of affordability due to a combination of high house prices and high mortgage rates is keeping some people in apartments when they might otherwise have transitioned to homeownership. Finally, elevated immigration means more people looking for housing.
That puts the apartment market in a strange state where there’s a significant level of supply expected this year, but reasons to believe that we could have a shortage as soon as the first half of 2026. At a time when the Federal Reserve is worried about price pressures, and the March Consumer Price Inflation report released this week showed elevated readings for shelter, this is a concern.
Blackstone Inc.’s recent $10 billion purchase of Apartment Income REIT tells me that investors are taking note. (…)
Completions of multi-unit construction has indeed exploded lately, helping clear the backlog accumulated due to the shortage of workers. Permits and starts have now reverted to their pre-pandemic levels.
Zillow just released its March rent data combining new leases for single and multi family rentals. On a MoM basis, Zillow is back in sync with the BLS data with new rents stabilizing at a 4.5% annualized rate over the past 4 months.
There remains a 10% gap between the BLS measure and Zillow market rents however.
Home prices are showing a large 20% gap to rents but declining new house prices now offer an option to renters who can deal with high mortgage rates.
The Fed prefers the PCE inflation measure because it provides “a more comprehensive, dynamic, and flexible measure of inflation that better reflects the actual experience of consumers. This makes it a more reliable indicator for the Fed’s monetary policy decisions.”
But PCE inflation has declined much faster than the CPI measure post pandemic. The current gap of 1.0% is the widest since 2002, more than 3 times the historical 0.3% gap.
On a categorical basis, housing has been by far the largest source of the inflation wedge the past year. While primary shelter inflation is up a little less than 6% by both the CPI and PCE index, it carries 2.5x the weight in the core CPI. As a result, primary shelter has contributed 1.5 percentage points more to the year-over-year rate of core CPI than core PCE. Bringing the gap back down to its historical realm of 0.3 points will hinge heavily on shelter inflation returning near its pre-pandemic pace.
This inflation wedge does not seem to be an issue for the FOMC. Fed officials continue to espouse optimism that shelter inflation will ease further in the coming months.
But they have been totally wrong on that for over a year and they could well continue to be wrong. In December 2022, Jay Powell told us that he was now watching “supercore CPI”:
Finally, we come to core services other than housing . . . this may be the most important category for understanding the future evolution of core inflation. Because wages make up the largest cost in delivering these services, the labor market holds the key to understanding inflation in this category.
But wages are also a key factor influencing rents. People generally seek the best adobe they can afford so rents are intimately tied to wages, still rising in the 5% range. On the supply side, renters consider their own labor and operating costs (e.g. property taxes) but also their cost of capital (interest rates).
One could argue that housing’s 43% weight in the CPI is too high, but its 18% weight in the PCE far from reflects the reality of most homeowners and renters. Maybe we should all use a CPI-PCE combo which currently reads +3.3% YoY but +0.37% MoM (+4.5% annualized) in the last 2 months, way above the 0.17% MoM growth required to achieve 2%.
For more on inflation measures, see this Wells Fargo piece, with this comment:
The relatively higher rate of CPI compared to the PCE deflator likely goes some ways in explaining why consumers continue to reel from the current inflation environment, but Fed officials see enough progress to expect some policy easing later this year. Even as consumer sentiment has improved over the past year, it remains low relative to the strength of the jobs market as prices paid by consumers continue to rise at an unfamiliar speed.
While the wedge between CPI and PCE inflation does not appear to be a major source of consternation among Fed officials, it could make the FOMC’s job of returning PCE inflation to 2% a little harder on the margin with cost of living adjustments and price contracts more likely to be based off of the stronger CPI inflation rate. In addition, the Fed does not solely look at the PCE deflator when assessing the current state of inflation. If the gap persists at recent levels and the drivers shift away from housing, it could contribute to some unease among policymakers about the risk of cutting the fed funds rate too early.
Economic conditions outlook, March 2024
In the latest McKinsey Global Survey on economic conditions, the outlook on domestic conditions in most regions has become more hopeful, despite ongoing shared concerns about geopolitical instability and conflicts. In a year brimming with national elections, respondents increasingly see transitions of political leadership as a primary hazard to the global economy, particularly in Asia–Pacific, Europe, and North America.
Furthermore, respondents now view policy and regulatory changes as a top threat to their companies’ performance, and they offer more muted optimism than in December about their companies’ prospects.
Respondents share much brighter assessments of the global economy and conditions in their countries than they did at the end of 2023, and views of the global economy are the most positive they’ve been since March 2022. In the December survey, respondents were equally likely to say the global economy had improved and worsened. Today, respondents are twice as likely to report improving rather than deteriorating conditions.
Looking ahead to the next six months, respondents are also more optimistic than they were last quarter. Forty-six percent expect the global economy to improve—nearly double the share expecting worsening conditions—while 37 percent expected improvement in the previous survey.
Likewise, respondents offer hopeful views when asked about the most likely near-term scenario for the global economy, suggesting confidence in central banks. They are more likely to expect a soft landing overall—with either slowing or accelerating growth compared with 2023—than a recession. The largest share of respondents expect a soft landing, with slowing growth relative to 2023.
Respondents’ views on their own economies
have also become more upbeat. Nearly half of respondents say economic conditions at home are better now than they were six months ago, up from 41 percent in December, while just 22 percent say conditions have gotten worse. Respondents in Europe—who offered the most negative assessments of any respondents in September and December—are now nearly twice as likely as in December to say conditions have improved in the past six months, though it is unclear what has prompted that change and whether it is a durable finding.More than half of respondents expect their economies to improve over the next six months. It’s the first time in two years that a majority of respondents have said that. In most regions, larger shares of respondents express optimism about economic conditions at home now than in December.
For five quarters, respondents’ most cited risk to their companies’ performance in the next 12 months was weak customer demand. Now, they most often point
to policy and regulatory changes as a threat. In December 2023, policy and regulatory changes weren’t even one of the top five perceived risks. This increased wariness of policy changes cuts across most regions, though we see the largest increase in Europe.Even though weak demand is no longer the most cited risk for companies, optimism over expected demand has tapered since December. Fifty-one percent of respondents expect an increase in customer demand over the next six months, down from 57 percent in December. Yet expectations about profits remain upbeat: about six in ten respondents expect increasing profits in the months ahead, in line with expectations in much of 2023.
Entry to Canadian housing market feels out of reach for 76% of non-owners, poll suggests
A new poll done for CIBC says 76 per cent of Canadians who don’t own a property say entry to the housing market feels out of reach.
The bank says the online survey done in February found that 70 per cent of non-owners cited overpriced markets as one of the main barriers to achieving their homeownership goal, while 63 per cent cited the inability to save for a down payment.
The poll also found that 55 per cent of non-owners said they’ll only be able to afford a new home with an inheritance or gift from their family.
CIBC says current homeowners are also facing challenges as they deal with higher interest rates.
The bank says 51 per cent of variable-rate mortgage holders polled said they’ve been cutting back on everyday expenses, while 21 per cent are putting lump sum payments toward their mortgage.
Meanwhile, 45 per cent of homeowners with fixed-rate mortgages anticipate they’ll cut back on daily expenses as their loans come up for renewal in the next two years.
China Exports Rise as Trade Tensions Mount Outbound shipments pick up as Beijing supports the manufacturing sector and U.S. warns on overcapacity
Exports in the first three months of 2024 were 1.5% higher than the same period a year earlier, according to data published Friday by China’s General Administration of Customs. That increase came despite a steeper-than-expected year-over-year fall in outbound shipments in March.
Export volumes, which measure the amount of goods shipped rather than their value in U.S. dollars, rose 4.4% in the first quarter compared with the same period last year, the data showed, underscoring how falling prices for Chinese goods are helping overseas sales.
China Releases Details of Trade-In Program for Consumer Products Beijing launched a similar trade-in program to boost domestic consumption in 2009 and 2010
China’s central government will work with local authorities to allocate funds supporting consumers who trade in used cars and upgrade old home appliances, the Ministry of Commerce and other departments said in a joint statement Friday.
Officials will “encourage financial institutions to lower the down payment for auto loans reasonably,” according to the statement, which didn’t provide the amount of funds to be made available.
Policymakers will encourage certain local governments to provide incentives to consumers buying environment-friendly smart home appliances.
The officials will also release incentives for the purchase of smart home products and encourage the replacement of other household consumer goods.
By 2025, China aims to raise the recycling volume of old home appliances by 15% and the recycling volume of scrapped cars by 50% from 2023 levels, according to the statement.
BTW:
Source: MRB Partners
EARNINGS WATCH
We now have 29 reports in, a beat rate of 86% and a surprise factor of +13.5%. All 6 Financials beat, by +13.9%. These 29 companies reported aggregate profits 16.9% above last year’s on revenue up 4.4%.
Trailing EPS are now $224.64, up 5% since July 2023 and 2.2% YoY.
Forward EPS are $251.81, up 9.5% since July 2023 and 11.5% YoY and 12.1% above trailing EPS.
High valuation is reflected in the gap between the S&P 500 Index (blue) and the Rule of 20 Fair Index Value (yellow, 20 – inflation of 3.8 x trailing EPS), still rising.
Also a large gap to the 200dma …
… and in expectations (Ed Yardeni).
US banks’ profit picture less clear with cloudy rates trajectory
The uncertain trajectory of interest rates is making it hard for U.S. banks to forecast profits and leading some to adopt a cautious stance for the remainder of the year.
Banks have reaped high profits in recent quarters as the Federal Reserve started raising interest rates in March 2022 to tame inflation, which boosted net interest income (NII), or the difference between what lenders earn on loans and pay out for deposits.
But that positive effect has been waning, and the outlook for rates is now uncertain, particularly after March inflation data came in higher-than-expected, pushing out Wall Street’s forecasts for when the Fed starts rate cuts.
“It’s certainly challenging these days to forecast NII, given all of the volatility that we’ve seen across a lot of the different data points, as well as some of the uncertainty that’s out there relative to how our clients are going to behave,” Wells Fargo’s finance chief Michael Santomassimo said.
Wells Fargo’s NII fell 8% in the first quarter, hurt by higher interest rates on funding costs, including the impact of customers moving to higher yielding deposit products, as well as lower loan balances. The bank reiterated on Friday that its NII could fall 7% to 9% this year. (…)
JPMorgan Chase pointed to similar challenges in navigating the changing rates environment. Chief Financial Officer Jeremy Barnum said on an analyst call following earnings that while its current guidance was not meaningfully different from what it was in the fourth quarter, it was based on the “current yield curve, which is a little bit stale now.”
JPM reported that NII rose 11% but it forecast that full-year income from interest payments would be below analysts’ expectations. JPM’s executives have warned for months that its surging NII was not sustainable.
“You’ve got to be prepared for a range of outcomes, which we are,” said Jamie Dimon on the analyst call. “All of these questions about interest rates and yield curves… We don’t want to guess the outcome. I’ve never seen anyone actually positively predict a big inflection point in the economy literally in my life or in history.” (…)
Banks were generally positive on the economy, with Dimon saying the economy remained strong with people having excess money to spend. (…)
Iran’s Attack on Israel Upsets OPEC+ Search for Goldilocks Price
Recently, I asked the head of a state-owned oil company in the Middle East what price OPEC+ is aiming for. Laughing, he replied: $99.99 a barrel, and not a single cent higher. Even following Iran’s missile attack on Israel, there’s a good chance the cartel can keep crude prices below the triple-digit barrier.
My interlocutor was intentionally flippant, but directionally, his assessment sounds about right. Yet, on any given day, achieving oil prices that are neither too hot nor too cold is extremely difficult. The geopolitics of the Middle East only confuses the calculus and makes it almost impossible to reach the fabled goldilocks level.
The situation is fluid, and for the oil market, everything depends now on how Israel’s response and the chance of a cycle of escalation. Still, we can draw a few tentative conclusions:
1) From a purely physical standpoint, nothing has changed in the world of oil. (…) the Strait of Hormuz, the world’s most important energy chokepoint, remains open to shipping. (…)
2) The risk of a future disruption has increased. (…)
3) Iran appears to have aimed for an escalation to-deescalate, rather than opening the first chapter of a regional war. (…) If so, headline oil prices don’t need to rally. Instead, the risk will be reflected better via the options market.
4) Putting aside geopolitics, oil supply and demand fundamentals look healthy. Even the most bearish forecast for oil demand suggests consumption growth in 2024 will match the historical annual average of 1.2 million barrels a day. The bullish forecasts are for much higher growth, in the 1.5-to-1.9 million barrels a day range. On the supply side, a series of glitches have reduced production this year, particularly of US shale oil. As a result, global oil inventories, which typically increase in the first half of the year, have remained unchanged. Unless OPEC+ increases production soon, stockpiles will drop in the second half of the year.
5) OPEC+ is keeping the market tight. Despite oil prices well above $80, it decided in late March to roll over its first-quarter output cuts into the second quarter. My expectation is that the group will open the taps at its next meeting, scheduled for June 1. In its last monthly oil report, the cartel noted on April 11 that the “robust oil demand outlook for the summer warrants careful market monitoring” – the kind of preparatory language ahead of an output hike.
6) How OPEC+ increases production would be as important as the hike itself. I expect the group to hike output slowly, leaving its options open. Rather than pre-announcing a series of production increases, it could instead opt to call monthly meetings, keeping the market guessing whether it would add enough crude.
7) Unless Israel and Iran engage in tit-for-tat attacks that disrupt oil flows, OPEC+ has more than enough spare production capacity to control a price rally. Saudi Arabia, the United Arab Emirates, and Iraq are keeping about 5 million barrels of day out of the market – equal to about 5% of the world’s demand, and more than what Iran itself produces.
8) Barring a regional war, the biggest oil supply risk is political. President Joe Biden has promised a “diplomatic” response to the Iranian attacks. Since he was inaugurated in 2021, Biden has all but allowed Iran to increase its oil output, relaxing the enforcement of US sanctions on Tehran. In March, Iranian oil output hit a five-year high of 3.25 million barrels a day, up from 2.1 million in January 2021. If Biden resumes enforcing the sanctions, it could tighten the market significantly unless OPEC+ offsets the impact. I’m dubious Biden would take that course of action in an election year.
9) Russia stands to win. Thanks to a tight oil market, Moscow is already selling its crude at $75 a barrel, well above the Group of Seven cap of $60 a barrel. If Washington enforces sanctions against Iran, it could create space for Russia’s own sanctioned barrels to both win market share and achieve even higher prices. One of the reasons why the White House turned a blind eye to Iranian oil exports is because its priority was to hurt Russia. Higher Iranian production was the unsaid — and unrecognized — cost of that policy. Now Washington needs to reconsider what’s its biggest concern.
10) The risk that the White House would tap the country’s Strategic Petroleum Reserve later this year has increased notably. Even if half the size it was a decade ago, the stockpile of about 365 million barrels is still a formidable force. Biden can use the cover of rising tension in the Middle East to justify its use and try to push oil prices down toward $80 a barrel if OPEC+ decides it’s happy letting them rise to $99.99, or even beyond.
(…) At this point, Netanyahu could choose to be a Shamir. Iran says the matter is closed. No Israeli has been killed. Victory can be claimed by Israel. Further, the country’s standing with the rest of the world is far more tenuous now than 33 years ago, while Netanyahu’s own position at home is precarious. The institutions designed to control him, such as they are, appear as though they might hold. On balance of probabilities, the odds are that this situation doesn’t escalate from here.
Is this a certainty? Absolutely not. Caution is warranted. And the analysis I’ve presented already seems to have found its way into strategists’ calculations, so a major military response by Israel would be very surprising as well as negative. But on balance, that is unlikely.
From Indonesia to Japan, dollar’s rising strength raises global alarm G20 finance ministers likely to discuss issue as their currencies depreciate
(…) The negative impact of the dollar’s predominance on the global economy is likely to be one of the main themes at the Group of 20 of meetings finance ministers and central bank governors, which opens on Wednesday in Washington.
The currencies of G20 countries are almost all depreciating against the dollar. The decline since the beginning of the year has reached 8% for the yen and 5.5% for the South Korean won, led by the Turkish lira at 8.8%. Both developed and emerging economies have seen currencies weaken at an accelerating pace, with the Australian dollar, Canadian dollar, and euro falling 4.4%, 3.3%, and 2.8%, respectively, in developed economies.
The source for the dollar’s strength is the receding prospect that the U.S. Federal Reserve will soon cut interest rates. The consumer price index released Wednesday rose by more than market expectations. It is now widely believed that the start of the Fed’s interest rate cuts will be delayed from June, which had been the main scenario. After the release of the CPI, currencies such as the yen and euro fell further against the dollar.
Governments are increasingly concerned about the falling value of their currencies. Emerging economies are particularly sensitive to the negative effect, as the burden of dollar-denominated debt increases along with larger interest expenses due to higher rates.
According to the International Monetary Fund, a 10% rise in the dollar on the currency market would push down real gross domestic product in emerging economies by 1.9% after one year, with adverse economic effects lasting more than two years. In 2022, when a similar dollar strengthening was underway, Sri Lanka fell effectively into default as its currency depreciated. (…)
Emerging countries fear a situation where their economies cool down due to interest rates raised to calm inflation, as in Turkey. In many emerging economies, the move to raise interest rates was paused last year. Just as they were ready to begin cutting rates, the delay to U.S. rate cuts makes it more likely that emerging economies will be forced back to raising rates. (…)
Emerging economies tried to prevent their currencies from depreciating by raising interest rates ahead of the Fed in 2021 and 2022. At the beginning of 2024, many believed that the U.S. interest rates would be lowered by the end of the year and that the dollar’s strength would be corrected. However, the timing of U.S. interest rate cuts is being pushed back, increasing the risk of an unexpectedly prolonged appreciation of the dollar, which could have a negative impact on emerging economies.
These concerns are not just limited to developing economies, Japan and other developed countries are nervous about the incessant depreciation of their currencies.
Speaking about the upcoming G20 meeting, Japanese Finance Minister Finance Minister Shunichi Suzuki said Friday that “it is possible that [the dollar] will be on the agenda. We have discussed capital flight before.”
The dollar’s growing strength might also be a topic at the Group of Seven meeting of finance ministers and central bank governors to be held in conjunction with the G20 meeting.
The G7 meeting in 2017 included “excessive volatility and disorderly movements in exchange rates can have adverse effects on economic and financial stability” in its statement. Japan’s Finance Ministry intends to ask at the G7 and G20 for understanding of foreign exchange intervention when the yen weakens excessively.
“In addition to higher oil prices, the risk of a return to inflation is increasing in emerging economies because of exchange rates,” noted Kota Hirayama of SMBC Nikko Securities. “However, they are unlikely to raise interest rates. Rather than responding with monetary policy, they are likely to temporarily respond to the depreciation of their currencies through interventions to buy time.”
“At the G20, emerging economies may voice their dissatisfaction with U.S. monetary policy,” Hirayama said.
The U.S. has a presidential election coming up in November. “Fighting inflation remains my top economic priority.” President Joe Biden said in a statement on Wednesday. “But we have more to do,” the statement continued.
It remains to be seen whether the G20 will be able to find a point of agreement between the U.S. and other participating countries at the meeting.
