Cape Fear? S&P Peak PEG ratio At All-time High, Shiller CAPE Ratio At Second All-time High As Dow Pierces 26K Mark

Yes, the stock market is on a roll with the Dow recently piercing the 26,000 mark. And the S&P500 index has pierced the 2,800 mark. Of course, the massive Federal Reserve intervention (along with other global central banks) has certainly thrown gas on the fire.

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Looking at price levels alone is not meaningful. So, let’s look at two stock market adjusted indices.

First, there is the S&P Peak PEG ratio.  It is a price to peak-earnings multiple, adjusted for long-run trend growth. It is at the all-time high.

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Second, we have Bob Shiller’s CAPE (Cyclically Adjusted Price-Earnings) ratio that is now at the second highest peak (after the Dot,com bubble) and above the notorious Black Tuesday of 1929.

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But it is not just the stock market that may be overheated. How about home prices … again?

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And if we adjust home price growth by hourly earnings by the majority of the population, we see that home prices YoY are growing 3 times faster than hourly earnings YoY.

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This might help explain why The Fed is so timid about unwinding its balance sheet.

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Did someone mention fear?

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Fed Dumps $2.63 Billion of Inflation Protected Treasuries [TIPS], Battle of The SOMH?

Like every Thursdays afternoon, The Fed of New York announced their balance sheet holdings.  Unlike the anticipated unwind that Janet Yellen had been promising, The Fed actually INCREASED their holdings of US Treasury Notes and Bonds and increased their holdings of Agency MBS.

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Did The Fed unwind anything? Yes. They dumped $2.63 BILLION of Treasury Inflation-Protected Securities (TIPS).

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Did The Fed just surrender on the inflation front? The Battle of The SOMH (System Open Market Holdings)?

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Core Inflation Rises 0.3% MoM In December, 1.8% YoY, Owners’ Equivalent Rent of Dwelling Rises 3.1% YoY (Fed Still Can’t Generate Inflation)

I remember when Federal Reserve Chair Janet Yellen said that inflation is just around the corner. It must be a really long street.

Consumer price indices for December are out and CPI MoM rose 0.1%, but Ex Food and Energy it rose 0.3%. CPI Ex Food and Energy YoY rose 1.8% from 1.7% in November.

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Despite its wishes to generate inflation with zero interest rate policies and QE, inflation remains stubbornly low (below 2%). Core PCE Prices YoY is even worse at 1.50%.

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Of course, home prices are growing at 6.6% YoY, over 4 times core inflation (PCE). 

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Although imputed rent growth YoY is only 2x core inflation (PCE).

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So, home prices and imputed rent of dwellings are both rising at multiples of the core inflation rate … and wages.

Hopefully Yellen’s replacement can do better in terms of slowing down bubbles. But I doubt it.

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Fed Paid $29.3 Billion To Banks NOT To Lend In 2017 (Excess Reserves), Fed Earned $80.2 Billion For Treasury

Yesterday, The New York Federal Reserve announced that it actually increased their $4.2 trillion balance sheet by $1 million rather than shrinking it.

This comes on the heels of The Federal Reserve announcing that it provided $80.2 billion in payments to the US Treasury in 2017. This is the lowest remittance to Treasury since 2015, but still positive.

The Fed’s $4.45-trillion of assets – including $2.45 trillion of US Treasury securities and $1.76 trillion of mortgage-backed securities that it acquired during years of QE – produce a boatload of interest income. How much interest income? $113.6 billion.

Which brings us to excess reserves. Excess reserves—cash funds held by banks over and above the Federal Reserve’s requirements—have grown dramatically since the financial crisis. Holding excess reserves is now much more attractive to banks because the cost of doing so is lower now that the Federal Reserve pays interest on those reserves.  Excess reserves as of the end of 2017 are around $2 trillion and the interest rate paid on excess reserves is now 1.50%.

In 2017, the interest that the Fed paid the US banks and foreign banks doing business in the US jumped by $13.8 billion to $25.9 billion. The Fed also paid banks $3.4 billion in interest on securities sold under agreement to repurchase. That brings the amount that the Fed paid to banks of $29.3 billion.

The Fed will likely raise rates further this year, perhaps 4 times.

This would push the rate on excess reserves to 2.5% by the end of the year. Excess reserves will likely shrink as QE is being unwound, but I am doubtful. And the amount that the Fed pays the banks this year might surge to $40 billion or more (slow shrinking and rising interest paid on Excess Reserves).

So, Treasury is receiving a windfall every year from The Fed courtesy of QE. And Treasury receives another windfall from the notorious 2012 profit sweep from Fannie Mae and Freddie Mac. (Can you spot Treasury’s changing of the Fannie/Freddie bailout terms??)

Yes, Treasury makes good money from The Federal Reserve and having seized the profits from Fannie Mae and Freddie Mac. Will they relinquesh control?

Are Shopping Malls In WORSE Shape Than Previously Thought? (70% of Malls Suffer Decline in Tennants)

It is no secret that store closings have increased, some caused by on-line shopping like  Amazon,

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or the failed wage recovery after The Great Recession (aka, the WORSE wage recovery following a recession in recent history).

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Now Green Street Advisory has a study on Mall Turnovers and it is grim.

Across the 950 malls studied, over two-thirds saw a net decrease in the number of national tenants. While ‘A’ malls performed relatively well, they have not fully escaped the closures due to some retailers shuttering all their locations regardless of mall quality. Furthermore, most top-quality centers already have more of the national retailers as tenants, limiting their ability to find other national tenants to replace those that leave. Conversely, many lower-quality centers are seeing significant changes in their ability to retain and attract national retailers despite already housing fewer national retailers on average than ‘A’ malls. This trend demonstrates the challenge that many malls are now facing as they fill vacancies with more local and regional tenants.

In conclusion, the key takeaway is that it’s hard to assess what real estate is worth in the retail sector today. In-line tenant activity can provide a window into individual mall health. The Advisory & Consulting group’s analysis concludes that ~70% of malls have suffered a recent decline in the number of national tenants. Understanding which malls are most at risk in a timely fashion is key to anticipating possible “death spirals,” where malls can lose as much as 90% of their value (much more than other property types).

And yes, even “A” space is seeing negative tenant change, so it is no longer just fringe malls in depressed areas that are having problems.

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This will definitely put a dent into CMBS prices if the mall operators can’t replace the declining tennant rolls. That is, can mall operators repurpose vacant space (like having George Mason University offer classes in malls to eleviate their space constraint on Fairfax campus)?

Repurposing will likely be with local tenants and not national tenants.

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Big Bubbles! House Price Bubbles and Financial Stress (The Do Ho Financial Market)

Yes, we live in a “Do Ho” economy where bubbles (and not tiny ones) are pervasive. 

Look at the YoY growth in the all-transactions index from FHFA for US house prices compared to the St Louis Fed Financial Stress Index.

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When the financial stress index is low (less than zero), we see BIG home price bubbles.

Of course, home price bubbles occur when YoY changes in home prices outpace household earnings growth YoY.

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If Don Ho were still alive, he could redo tiny bubbles as BIG bubbles.

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Do The Double-up! As Rents Rise, More Renters Turn to Doubling Up (L.A. The Worst!)

Zillow has a fascinating, yet troubling study.  It says that rent consumes a growing share of household income in many cities, some people must relocate or find ways to offset rising prices. An increasingly popular way to cut costs is by adding a roommate. Nationally, 30 percent of working-age adults—aged 23 to 65—live in doubled-up households, up from a low of 21 percent in 2005 and 23 percent in 1990.

Doubing up is a close relative of young adults continuing to live with their parents. Even though U-6 unemployment is at 8%, wage growth continues to be considerably lower than before the financial crisis. This offers a partial explanation for the doubling-up phenomenon.

Of course, doubling-up is typical is high cost of living areas like Los Angeles, San Francisco, New York City, Chicago and Washington DC. Not surprising is the doubling-up trend in Mexican border cities like El Centro California, Tucson and Yuma Arizona and El Paso and Laredo Texas.

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This nice graphic shows the trend over time, with Los Angeles leading the way.

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And yes, The Federal Reserve’s super low rate policies have contributed to rent growth (but not wage growth).

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So, let’s do the double-up with Archie Bell and the Drells from Houston Texas.

Even The Dude (aka, Jeffrey Lebowski) didn’t have to double-up with Donnie or Walter Sobchak in the film The Big Lebowski in 1998. Likely all three would have to live together if filmed in 2017.

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