Top of the Street: Farewell to the Fed chair, a foreign bid for US credit, a Ginnie Mae fix and more

Chair Yellen bows out after this week, US corporate credit gets a lift from foreign demand, Ginnie Mae fixes a prepayment problem, the loan mix shifts in CMBS and lessons from the financial crisis. Contributions from DB, GS, JPM, NY Fed and Milepost.

 Markets: The Fed says farewell to the Chair
The FOMC will hold Janet Yellen’s valedictory meeting this week with likely few substantive changes to language and the Fed on track to hike in March. Markets have priced an 86% chance of a March hike. Growth has been steady, labor markets tight and inflation still below target. Core PCE for December should come in next week year-over-year at 1.5%. The Fed has signaled three hikes this year. Street economists lean toward four. See Deutsche Bank, What to expect from the January FOMC statement, 26 Jan 2018. (DB, Milepost).

Markets: Foreign investors reach for US credit
Net foreign purchases of US corporate debt in 2017 tallied $133 billion through November and could go on to top the post-crisis record set in 2015 of $143 billion. European investors have been the strongest source of foreign demand. The European Central Bank has absorbed a significant share of EU corporate debt through its QE program, and that has likely pushed private EU investors into the US market. As the EU throttles back on QE, spreads in the US could widen. See Goldman Sachs, The Credit Trader, 19 Jan 2018. (GS, Milepost).

Markets: Ginnie Mae comes up with a fix
Ginnie Mae last week moved to fix a problem with fast prepayments in its MBS that it has battled for more than a year. The agency announced new rules giving it power to rein in or shut down issuers with high rates of loan default, little retained prepayment risk, limited loan diversification or abnormally high prepayments.  JPMorgan estimates that the rules would have cut 2017 prepayments in the most vulnerable 30-year Ginnie Mae II 3.5% MBS by 3 CPR, 4.0%s by 11 CPR and 4.5%s by 21 CPR. Ginnie Mae MBS prices jumped higher on the announcement. See JPMorgan, US Fixed Income Markets Weekly, 26 Jan 2018. (JPM, Milepost).

Markets: The CMBS market adds office space
The share of CMBS loans backed by office space has jumped in the last five years from 20% to more than 30%, according to Goldman Sachs. The rise partly reflects the drop in loans backed by retail property. Retail has fallen from nearly 35% of underlying CMBS loans to less than 15%. Office loans face some headwinds, however. Office rents grew by 6.0% in 2015 but only 1.6% last year. And all commercial real estate should come under pressure if rising interest rates cut into market prices. See Goldman Sachs, The Mortgage Trader, 21 Jan 2018. (GS, Milepost).

Economy: Lessons from the financial crisis
The boom in mortgage debt before the 2008 financial crisis has become both history and Hollywood, but now the NY Fed has added a wrinkle to the story. Import competition, the NY Fed argues, explains an important part of the rise in mortgage debt. The NY Fed calculated exposure to import competition in local economies across the US in the 2000s and correlated it with subsequent rise in mortgage debt. The stronger the competition, the higher the debt. Borrowers generally increased their household leverage by taking equity out of their homes. The Fed speculates that borrowers used the debt to smooth household finances as new import competition put pressure on employment and wage growth. The NY Fed post is here. (NY Fed, Milepost).