December 2022 Mortgage Markets: The End of an Inflation-Heavy Year

Heading into the December 2022 mortgage markets, investors and analysts widely expected the Federal Reserve to increase interest rates by 50 basis points. As it turned out, the Fed didn’t disappoint them. Over the past several months, the United States economy experienced large benefits due to the Fed’s monetary policy.

While the Federal Reserve once purchased mortgage-backed securities to strengthen the United States economy, they began heading the other direction in 2022. After the United States faced a faster-than-anticipated economic recovery, inflationary pressures soared.

In an effort to combat said pressures, the Fed began to increase the federal funds rate periodically. Initially, they hoped for a soft landing, lowering inflation without inducing a full-blown economic recession. However, recent recession talks increased. That said, inflationary pressures did begin to ease.

Fast forward to December’s Federal Reserve meeting, and investors expected a 50-basis point hike. Of course, this falls below the previous hikes of 75 basis points. Thus, the trending increases show the benefits of the Fed’s long-term monetary strategy.

Federal Reserve Comments and PCE Generate Favorable Reaction for December 2022 Mortgage Markets

Kicking off December, the United States saw several major economic events. First, Federal Reserve Jerome Powell shared comments regarding their inflation strategy. Additionally, the Personal Consumption Expenditures Index came out. Overall, both generated a favorable reaction for mortgage markets. That said, the labor market did not, leading to lower mortgage rates by week’s end.

Federal Reserve Chair Jerome Powell Acknowledges Inflation Progress

On the last day of November, Federal Reserve Chairman Jerome Powell commented on their efforts pertaining to inflation. While he acknowledged the obvious reduction in inflationary pressures, he also mentioned that the economy still has more work in front of it.

Examining their monetary policy as a whole, the strategy comes with long lag effects. Essentially, the Federal Reserve’s interest rate bumps take time to impact the greater United States. That said, he did discuss slowing rate hikes at the December 14th meeting. In conclusion, the vast majority of investors anticipated a 50-basis point hike at the December 14th meeting (which was later proved correct).

Further solidifying investor confidence was the latest Personal Consumption Expenditures Index (PCE). Notably, the Federal Reserve prefers the PCE Index because it for changes in consumer preferences over time. In October 2022, Core PCE improved 5.0% year-over-year. However, this data falls slightly below expectations. Additionally, Core PCE dropped from February 2022’s peak of 5.4%.

Despite the drop, the Core PCE hovers far above the Federal Reserve’s target level of 2.0%. leading into the December 14th meeting, this played a large role with investors debating the enormous implications for financial markets.

Labor Market Creates Inflation Anxiety with Overperforming November Statistics

Although the Federal Reserve and Personal Consumption Expenditures Index shared good news regarding the inflation challenges, the labor market generated the opposite reaction. Despite the declining Core PCE, the latest Employment Report exceeded expectations pertaining to job gains and wage growth.

As a matter of fact, the United States economy gained 263,000 jobs in November 2022. Remarkably, this exceeds analysts’ consensus forecast by 63,000 jobs. Furthermore, the leisure, hospitality, and healthcare sectors demonstrated strong numbers. All three of these sectors faced severe setbacks during the early days of the COVID-19 pandemic.

Aside from job gains, the Average Hourly Earnings figures also displayed quite the performance. Commonly, analysts view this statistic as an indicator of wage growth. Overall, Average Hourly Earnings climbed 5.1% higher year-over-year. With that result, Average Hourly Earnings rose far above the consensus forecast for a decline to 4.6%.

Institute of Supply Management and Federal Housing Finance Agency Close Out Week

Beyond the major inflation and labor reports, the Institute of Supply Management released its National Manufacturing Index. In its latest reading, the Index dropped to 49.0, hinting at stalling economic growth. For reference, levels below 50 indicate a contracting sector. More so, this reading represents the lowest since May 2020.

Finally, the Federal Housing Finance Agency (FHFA) closed out the week with a major announcement regarding the baseline conforming loan limit for Fannie Mae and Freddie Mac mortgages. In 2023, the baseline conforming loan limit rises 12% from $647,200 to $726,200. At this point, the new limit for most high-cost areas jumps to $1,089,300 (150% of $647,200). Statistically, this marks the seventh consecutive year of increases.

December 2022 Mortgage Rates Climbed Back Up with ISM and PPI News

Holistically, the second week of December 2022 presented little major economic data. However, the key reports did allude to increasing inflationary pressures yet again. Despite the limited trading activity, mortgage rates climbed back up by week’s end.

With the yo-yo movement of mortgage rates, they’ve heavily harmed mortgage application volumes. Currently, applications sit near their lowest levels in 25 years. Additionally, the Mortgage Bankers Association (MBA) showed that purchase applications plunged a whopping 40% from last year at this time. To make matters worse for the real estate market, refinance applications plummeted a shocking 86% from one year ago. Lastly, the average loan size for homebuyer applications fell to $387,300, the lowest level since January 2021.

National Services Sector Index Alludes to Consumer Behavior Shift

In the week’s most significant economic report, the Institute of Supply Management (ISM) shared a stronger than anticipated Services Sector Index. As a matter of fact, November’s data alluded to a shift in consumer behavior as the Index rose to 56.5.

Compared to the National Manufacturing Index, this number shows a much stronger output. Although the manufacturing industry saw a great deal of expansion throughout the early days of COVID-19, recent trends indicate a shift in consumer behavior. With most of the world’s lockdowns over, consumers are taking advantage of leisure and hospitality services once again. This harkens back to the month’s Employment report with both of those sectors displaying strong growth in job gains and wage earnings.

Producer Price Index Moves in Right Direction

In the week’s second major report, the Producer Price Index (PPI) actually increased 0.3% from October 2022. As an inflation indicator, PPI measures the change in selling prices received by domestic producers. In regard to “domestic producers”, this refers to wholesale prices for items used to make finished products.

With the latest report, PPI jumped 7.4% higher than a year ago. However, PPI did fall though down from 8.0% last month (along with March 2022’s peak of 11.7%). Despite the decline, investors worry that PPI isn’t declining at a quick enough pace.

Tighter Bank Policy Leads to Favorable Reaction for December 2022 Mortgage Markets

While many global banks act in lockstep to insulate their economies, the lower inflationary pressures give investors reasons for optimism. However, numerous economies around the world are nearing recession levels. In the final two weeks of 2022, MBSQuoteline saw strategic maneuvers from the Federal Reserve, European Central Bank, and the Bank of Japan.

Federal Reserve Increases the Federal Funds Rate by 50 Basis Points

For clarity, slower economic growth and lower inflation rates generate a favorable reaction for mortgage-backed securities. Furthermore, much of the economic tightening helps to lower mortgage rates.

At the final Federal Reserve meeting of 2022, they bumped up interest rates by 50 basis points, as predicted. With the increase to the federal funds rate, the target range rose to 4.25% – 4.50%. Worth noting, the terminal peak also increased to 5.10%. Before the meeting, the terminal rate was only at 4.90%. At this level, the terminal rate soared to its highest point since December 2007.

During the post-meeting press conference, Federal Reserve Chair Jerome Powell reaffirmed his strong stance towards inflation. In the event that inflation follows a “sustained downward path”, the Federal Reserve left the door open to easing its monetary policy once more. That said, the Fed plans to look for “substantially more evidence” prior to making that policy adjustment. On a related note, the European Central Bank also increased their interest rates by 50 basis points (with similar closing remarks).

Bank of Japan Opens the Door to Tightening Monetary Policy

In a move that shocked investors, the Bank of Japan announced that they planned to allow the 10-year Japanese bond to trade in a wider range. From a strategic standpoint, this maneuver opens the door toward tighter monetary policy.

However, investors find this move interesting, to say the least. Overall, Japan has a more insulated economy than the United States and European countries. Moreover, inflation remained much lower in Japan, especially compared to the rest of the world. Beyond that, Japan neither raised interest rates in 2022 nor allowed massive fluctuation with its bond yields. Conclusively, this holds the potential to increase mortgage rates as the Bank of Japan demands fewer.

Inflation’s Impact on December 2022 Mortgage Markets

In the final weeks of 2022, the United States saw the publication of its November Consumer Price Index (CPI) and Personal Consumption Expenditures (PCE) reports. Additionally, both played a large role in the most recent Retail Sales and Real Estate data.

Consumer Price Index and Personal Consumption Expenditures Fall Below Consensuses

First, the Consumer Price Index (CPI) examines price changes for a broad range of goods and services. In addition, Core CPI excludes the volatile food and energy components. Also, Core PCE provides a clearer picture of the longer-term inflation trend.

In November 2022, Core CPI in November jumped 6.0% from a year ago, below the consensus forecast and down from 6.3% last month. Looking at the big pictures, inflation remains far above the readings around 2.0% seen early in 2021.

On the other hand, the Federal Reserve favors the Personal Consumption Expenditures Index (PCE). This is because PCE considers the changes in consumer preferences over time. In November, Core PCE was up 4.7% from a year ago. While matching expectations, Core PCE did decrease from the prior month’s annual rate of 5.0%. But, just like CPI, PCE remains well above the Fed’s stated target level of 2.0%.

Inflation Contributes to Consumer Spending and Real Estate Pullback

Despite the progress with inflation, it wasn’t enough to save the 2022 shopping season. While consumer spending accounts for over two-third of the United States’ economic activity, Retail Sales fell 0.6% from October. This statistic drops well below the consensus forecast for a decline of just 0.3%. Despite a widespread pullback, furniture stores, building materials, and auto dealers demonstrated the weakest results.

To a much worse extent, inflation crippled 2022 for real estate activity. As mortgage rates skyrocketed in 2022, existing home sales plummeted to their lowest level since 2010. Furthermore, they fell 35% year-over-year. With demand dropping the median existing-home price plunged considerably to $370,700, down from June 2022’s record high of $413,800.

Further complicating the situation, housing inventory hovers at a measly 3.3-month supply nationally. Overall, a 6-month supply reflects equilibrium between prospective home buyers and sellers. Additional home inventory has been badly needed for quite a while, but higher prices for land, materials, and skilled labor continued to hold back builders. Capping off the year, home builders confront declining sentiment. In the NAHB’s November survey, home builder sentiment decreased for the twelfth month in a row to 31 (anything below 50 is negative).

Looking Ahead After December 2022 Mortgage Markets

Looking ahead towards 2023, investors continue looking for guidance on the magnitude of future rate hikes and bond portfolio reduction. However, the final week of 2022 was light on economic data. Thus, MBSQuoteline didn’t publish a MortgageTime newsletter.

Next month, the Institute of Supply Management National Manufacturing Index publishes on January 4th. Finally, the key Employment report and ISM National Services Index come out on January 6th.

Despite progress with the Federal Reserve’s policy strategy, December 2022 mortgage markets experienced an end-of-year yo-yo effect. Never miss an update with MBSQuoteline. To receive by-the-minute updates on mortgage-backed securities, try our platform free for 14 days.

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