THE FED MEETING, FUNDING MARKET AND OER

It is often written the markets are a microcosm of the myopicy of current perspectives.  The issue at hand is to recognize the next myopic dominating view.

Will it be the dysfunctional funding market, a market that is providing the necessary liquidity only because of Fed intervention?  December 16 quarterly taxes are due.  Moreover demand for funds/liquidity is greatest at year end. Will funding costs spike as they did in September?  These surging costs were quickly reduced by the first Fed intervention since 2007, an intervention that  is now occurring daily at levels much greater than anticipated.

Most will acknowledge it is regulatory fiat, the result of Dodd Frank, which has destroyed overnight liquidity.  But the question that still has not been answered is why the sudden demand for liquidity/funds, the first since September 2008?

Changing topics for the first time since 1972 wage gains are greater than 30-year mortgage rates.  Economics 101 states when this does occur, real estate values increase at a rate potentially greater than the rate of  inflation which then produces yet even more inflation.  As noted many times residential real estate prices in secondary and tertiary cities are still below 2005-06 levels.

Most value their net worth by the value of their homes.  Owners’ Equivalent Rent (OER) or what someone can rent their home for if it was indeed rental, is closely correlated to home values.  OER is 31% to 33% of accepted inflationary indices and the benign levels of OER is a major reason for “well anchored inflationary expectations.”

What happens if OER suddenly accelerates?  Will inflationary expectations rise, a rise that then morphs into cost push (wage) inflation, the scourge of the inflationary late 1970s?  Residential real estate values surged during the period however the real increases (after inflation) was relatively muted.

Wednesday is the conclusion of the FOMC meeting.  No change in monetary policy is expected.  Will the Committee comment about the issues surrounding the repo market?  I am relatively certain no remarks will be made about OER.

Can I remotely suggest the overnight funding market is beginning to discount the increase in OER or some other issue that is or is about to cause an unexpected market disruption?  All must remember it is the unexpected that shatters current illusions.

Last night the foreign markets were down.  London was down 0.98%,  Paris down 0.92% and Frankfurt down 1.48%.  China was up 0.10%, Japan down 0.9%  and Hang Sang down 0.22%.

The Dow should open moderately lower ahead of several central bank meetings and trade deadlines.  The 10-year is up 5/32 to yield 1.81%.

 

The views expressed herein are those of Kent Engelke and do not necessarily reflect those of Capitol Securities Management. The information contained herein has been compiled from sources believed to be reliable; however, there is no guarantee of its accuracy or completeness. Any opinions expressed are statements of judgment on this date and are subject to certain risks and uncertainties which could cause actual results to differ materially from those currently anticipated or projected. Any future dividends, interest, yields and event dates listed may be subject to change. An investor cannot invest in an index, and its returns are not indicative of the performance of any specific investment. Past performance is not indicative of future results. The material provided in Daily Market Commentaries or on this website should be used for informational purposes only and in no way should be relied upon for financial advice. Please be sure to consult your own financial advisor when making decisions regarding your financial management. Members of FINRA and SIPC, Capitol Securities Management is a privately owned full-service retail brokerage and investment advisory firm headquartered in Richmond, Virginia. For nearly 30 years, we have been serving the needs of our investors. Today, more than 200 Capitol Securities Management investment professionals and support staff serve approximately 18,000 customer accounts from Southern Florida to the New England coast.