US Economy: What Could Go Wrong

Our Chief Fixed Income Strategist surveys the latest big swings in the oil market, which could lead to opportunities in equities and credit around the energy sector.----- Transcript -----Welcome to Thoughts on the Market. I am Vishy Tirupattur, Morgan Stanley's Chief Fixed Income Strategist. Along with my colleagues bringing you a variety of perspectives, I'll be talking about the implications of recent strong moves in oil markets.It's Tuesday, April 9th at 3pm in New York.A lot is going on in the commodity markets, particularly in the oil market. Oil prices have made a powerful move. What is driving these moves? And how should investors think about this in the context of adjacent markets in equities and credit?Morgan Stanley's Global Commodity Strategist and Head of European Energy Research, Martijn Rats, raised crude oil price forecast for the third quarter to $94 per barrel. The rally in recent weeks is a result of positive fundamental news and rising geopolitical tensions.On the fundamental side, we've had better than expected demand from China and steeper than forecast fall in US production. Further, oil prices have also found support from growing potential for supply uncertainty in the Middle East. Martijn thinks that the last few dollars of rally in oil prices should be interpreted as a premium for rising geopolitical risks. The revision to the third quarter forecast should therefore be seen to reflect these growing geopolitical risks.Our US equity strategists, led by Mike Wilson, have recently upgraded the energy sector. The underlying rationale behind the upgrade is that the energy sector relative performance has really lagged crude oil prices; and unlike many other sectors within the US stock world, valuation in energy stocks is very compelling.Furthermore, the relative earnings revisions in energy stocks are beginning to inflect higher and the sector is actually exhibiting best breadth of any sector across the US equity spectrum. Higher oil prices are also important for credit markets. To quote Brian Gibbons, Morgan Stanley's Head of Energy Credit Research, for credit bonds of oil focused players, flat production levels and strong commodity prices should support free cash flow generation, which in turn should go to both shareholder returns and debt reduction.In summary, there is a lot going on in the energy markets. Oil prices have still some room to move higher in the short term. We find opportunities both in equity and credit markets to express our constructive view on oil prices.Thanks for listening. If you enjoyed the show, please leave us a review on Apple Podcasts or wherever you listen to this podcast. And share Thoughts on the Market with a friend or colleague today.

9 Apr 20242min

Our Global Chief Economist explains why the rapid hikes, pause and pivot of the current interest rate cycle are reminiscent of the 1990s.----- Transcript -----Welcome to Thoughts on the Market. I'm Seth Carpenter, Morgan Stanley's Global Chief Economist. Along with my colleagues bringing you a variety of perspectives, today I'll be talking about the current interest rate cycle and the parallels we can draw from the 1990s.It's Monday, April 8th, at 10am in New York.Last year, we reiterated the view that the 1990s remain a useful cycle to consider for understanding the current cycle. Our European equity strategy colleagues shared our view, and they've used that episode to inform their ‘out of consensus, bullish initiation on European equities’ in January. No two cycles are identical, but as we move closer to a Fed cut, we reassess the key aspects of that comparison.We had previously argued that the current interest rate cycle and the mid 90s cycle differ from the intervening cycles because the goal now is to bring inflation down, rather than preventing it from rising. Of course, inflation was already falling when the 1994 cycle started, in part, because of the recession in 1991.This cycle -- because much of the inflation was driven by COVID-related shocks, like supply chains for consumer goods and shifts in housing for shelter inflation -- inflation started falling rapidly from its peak before the first hike could have possibly had any effect. In recent months, our economic growth forecasts have been regularly revised upward, even as we have largely hit our expected path for inflation.A labor supply shock appears to be a contributing factor that accounts for some of that forecast deviation, although fiscal policy likely contributed to the real side's strength as well. Supply shocks to the labor market are an interesting point of comparison for the two cycles. In the 1990s, labor force growth was still benefiting from this multi-decade rise in labor force participation among females. The aggregate labor force participation rate did not reach its peak until 2000.Now, as we've noted in several publications, the surge in immigration is providing a similar supply side boost, at least for a couple of years. But the key lesson for me for the policy cycle is that monetary policy is not on a pre-set, predetermined course merely rising, peaking and then falling. Cycles can be nuanced. In 1994, the Fed hiked the funds rate to 6 per cent, paused at that peak and then cut 75 basis points over 1995 and 1996. After that, the next policy move was actually a hike, not a cut.Currently, we think the Fed starts cutting rates in June; and for now, we expect that cutting to continue into next year. But as our US team has noted, the supply side revisions mean that the path for policy next year is just highly uncertain and subject to review. From 1994 to 1996, job gains trended down, much like they have over the past two years.That slowing was reflective of a broader slowing in the economy that prompted the Fed to stop hiking and partially reverse course. So, should we expect the same now, only a very partial reversal? Well, it's too soon to tell, and as we've argued, the faster labor supply growth expands both aggregate demand and aggregate supply -- so a somewhat tighter policy stance could be appropriate.In 1996, inflation stopped falling, and subsequently rose into 1997, and it was that development that supported the Fed's decision to maintain their somewhat restrictive policy. But we can't forget, afterward, inflation resumed its downward trajectory, with core PCE inflation eventually falling below 1.5 per cent, suggesting that that need to stop cutting and resume hiking, well, probably needs to be re-examined.So, no two cycles match, and the comparison may break down. To date, the rapid hikes, pause and pivot, along with a seeming soft landing, keeps that comparison alive. The labor supply shock parallel is notable, but it also points to what might be, just might be, another possible parallel.In the late 1990s, there was a rise in labor productivity, and we've written here many times about the potential contributions that AI might bring to labor productivity in coming years.Thanks for listening. If you enjoy the show, please leave us a review wherever you listen to podcasts and share Thoughts on the Market with a friend or colleague today.

8 Apr 20244min

Oil demand has been higher than expected so far in 2024. Our Global Commodities Strategist explains what could drive oil to $95 per barrel by summer.----- Transcript -----Welcome to Thoughts on the Market. I’m Martijn Rats, Morgan Stanley’s Global Commodities Strategist. Along with my colleagues bringing you a variety of perspectives, today I’ll discuss recent developments in the oil market. It is Friday, April the 5th at 4 PM in London. At the start of the year, the outlook for the oil market looked somewhat unexciting. With the recovery from COVID largely behind us, growth in oil demand was slowing down. At the same time, supply from countries outside of OPEC (Organization for Petroleum Exporting Countries) had been growing strongly and we expected that this would continue in 2024. In fact, at the start of the year it looked likely that growth in non-OPEC supply would meet, or even exceed, all growth in global demand. When that occurs, room in the oil market for OPEC oil is static at best, which in turn means OPEC needs to keep restraining production to keep the balance in the market. Even if it does that, it results in a decline in market share and a build-up of spare capacity. History has often warned against such periods.Still, by early February, the oil market started to look tighter than initially expected. Demand started to surprise positively – partly in jet fuel, as aviation was stronger than expected; partly in bunker fuel as the Suez Canal issues meant that ships needed to take longer routes; and partly in oil as petrochemical feedstock, as the global expansion of steam cracker capacity continues. At the same time, production in several non-OPEC countries had a weak start of the year, particularly in the United States where exceptionally cold weather in the middle of January caused widespread freeze offs at oil wells, putting stronger demand and weaker supply together, and the inventory builds that we expected in the early part of the year did not materialise. By mid-February, we could argue that the oil market looked balanced this year, rather than modestly oversupplied; and by early March, we were able to forecast that oil market fundamentals were strong enough to drive Brent crude oil to $90 a barrel over the summer.Since then, Brent has honed in on that $90 mark quicker than expected. Over the last week or so, the oil market has shown a powerful rally that has the hallmarks of simply tightening fundamentals but also with some geopolitical risk premium creeping back into the price. For now, our base-case forecast for the summer is still for Brent to trade around $90 per barrel as that is where we currently see fundamental support. However, the oil market typically enjoys a powerful seasonal demand tailwind over the summer. And that still lies ahead. And, geopolitical risk is still elevated, for which oil can be a useful diversifier. With those factors, our $95 bull case can also come into play.Thanks for listening. If you enjoy the show, please leave us a review wherever you listen and share Thoughts on the Market with a friend or colleague today.

5 Apr 20243min

Experts from our research team discuss how tensions with China could limit US access to essential technologies and minerals.----- Transcript -----Michael Zezas: Welcome to Thoughts on the Market. I'm Michael Zezas, Global Head of Fixed Income and Thematic Research.Ariana Salvatore: And I'm Ariana Salvatore from the US Public Policy Research Team.Michael Zezas: And on this episode of the podcast, we'll discuss how tensions in the US-China economic relationship could impact US attempts to transition to clean energy.It's Thursday, April 4th at 10am in New York.Ariana, in past episodes, I've talked about governments around the world really pushing for a transition to clean energy, putting resources into moving away from fossil fuels and moving towards more environmentally friendly alternatives. But this transition won't be easy. And I wanted to discuss with you one challenge in the US that perhaps isn't fully appreciated. This is the tension between US climate goals and the goal of reducing economic links with China. So, let's start there.What's our outlook for tensions in the near term?Ariana Salvatore: So, first off, to your point, the world needs over two times the current annual supply of several key minerals to meet global climate pledges by 2030. However, China is a dominant player in upstream, midstream, and downstream activities related to many of the required minerals.So, obviously, as you mentioned, trade tensions play a major role in the US ability to acquire those materials. We think friction between the US and China has been relatively controlled in recent years; but we also think there are a couple factors that could possibly change that on the horizon.First, China's over-invested in excess manufacturing capacity at a time when domestic demand is weak, driving the release of extra supply to the rest of the world at very low prices. That, of course, impacts the ability of non-Chinese players to compete. And second, obviously a large focus of ours is the US election cycle, which in general tends to bring out the hawk in both Democrats and Republicans alike when it comes to China policy.Michael Zezas: Right. So, all of that is to say there's a real possibility that these tensions could escalate again. What might that look like from a policy perspective?Ariana Salvatore: Well, as we established before, both parties are clearly interested in policies that would build barriers protecting technologies critical to US economic and national security. These could manifest through things like additional tariffs, as well as incremental non-tariff barriers, or restrictions on Chinese goods via export controls.Now, importantly, this could in turn cause China to act, as it has done in the recent past, by implementing export bans on minerals or related technology -- key to advancing President Biden's climate agenda, and over which China has a global dominant position.Specifically on the mineral front. China dominates 98 per cent of global production of gallium, more than 90 per cent of the global refined natural graphite market, and more than 80 per cent of the global refined markets of both rare earths and lithium. So, we've noted that those minerals are at the highest risk of disruption from potential escalation intentions.But Michael, from a market's perspective, are there any sectors that stand out as potential beneficiaries from this dynamic?Michael Zezas: So, our research colleagues have flagged that traditional US autos would see mostly positive implications from this outcome as EV penetration would likely stagnate further in the event of higher trade tensions. Similarly, US metals and mining stocks would likely benefit on the back of increased support from the government for US production, as well as increased demand for locally sourced materials.On the flip side, Ariana, any clear risks that our analysts are watching for?Ariana Salvatore: Yeah, so a clear impact here would be in the clean tech sector, which faces the greatest risk of supply chain disruption in an environment with increasing trade barriers in the alternative energy space. And that's mainly a function of the severe dependencies that exist on China for battery hardware. Our analysts also flagged US large scale renewable energy developers for potential downside impacts in this scenario -- again, specifically due to their exposure to battery and solar panel supply chains, most of which stems from China domiciled industries.Michael Zezas: Makes sense and clearly another reason we’ll have to keep tracking the US-China dynamic for investors. Ariana, thanks for taking the time to talk.Ariana Salvatore: Great speaking with you Mike.Michael Zezas: And thanks for listening. If you enjoy Thoughts on the Market, please leave us a review wherever you listen to the show and share the podcast with a friend or colleague today.

4 Apr 20244min

Consumers are increasingly sensitive about where their personal data is being processed and stored. The head of our European Telecom team explains the complexity around data sovereignty and why investors should care about the issue.----- Transcript -----Welcome to Thoughts on the Market. I’m Emmet Kelly, Head of Morgan Stanley’s European Telecom team. Today I’ll be talking about data sovereignty. It’s Wednesday, April 3rd, at 5pm in London.It’s never been easier to manage your life with just a click of a button or tap on the screen. You can take a photo, upload it to social media, and share it with friends and family. You can pay your bills online – from utilities and groceries to that personal splurge. You can even renew your library card or driver’s license or access your emails from years and years ago.But where is all this data stored? Our recent work shows that consumers are increasingly sensitive about this issue. Among European consumers, for example, more than 80 percent think it’s either very or somewhat important to know where their data is stored. And two-thirds of European consumers would like their data to be stored in their country of residence. A further 20 percent would be willing to pay more to store data locally, especially consumers in Spain and Germany. These results suggest that in the future, processing and storage of European data is more likely to be near shored rather than be based abroad.A few weeks ago, I came on this podcast to talk about our expectation that European data centers will grow five-fold over the next decade. Our research showed that key drivers would include increased cloudification, artificial intelligence and data sovereignty. We believe the most under-appreciated driver of this exponential growth is the question of where data is stored and processed. This is data sovereignty; and it’s a concern for European consumers.Data sovereignty means having legal control and jurisdiction over the storage and processing of data. It also means that data is subject to the laws of the country where that data was gathered and processed. More than 100 countries have data sovereignty laws in place, and laws governing the transfer of data between countries will only proliferate from here. In Europe, for example, we estimate that less than 50 per cent of cloud data is stored locally, within the European continent. The remainder is stored either in the US – notably in Virginia, which is the key data center hub in the United States; or, to a lesser extent, in lower-cost locations within Emerging Markets or in Asia.Complicating the issue of data sovereignty further are the so-called “extraterritorial laws” or "extra-territorial jurisdiction." These dictate the legal ability of a government to exercise authority beyond its normal geographic boundaries. From a data perspective, even if data is stored and/or processed in Europe, it may also be subject to extraterritorial laws. Essentially, foreign, non-European governments could still gain access to European data.This is something to keep in mind as we put data sovereignty in the context of the transition to a multipolar world – a major theme which Morgan Stanley Research has been mapping out since 2019. The rewiring of the global economy is well under way and data security is a key imperative for policy makers against the backdrop of accelerating tech diffusion and also geopolitical tensions. Our baseline de-risking scenario for the rewiring of global trade extends to data security and implies a robust case for the near shoring of European data and data center growth.With so little of the European data pie stored or processed in Europe, the potential upside from near-shoring is considerable. Bottom line, we think investors should pay close attention to the issue of data sovereignty, especially as it plays out in Europe over the coming decade. Thanks for listening. If you enjoy the show, please leave us a review wherever you listen to podcasts and share Thoughts on the Market with a friend or colleague today.

3 Apr 20244min

We discuss how the upcoming US elections could affect trade and tax policy, and which scenarios are most favorable to retailers and brands. ----- Transcript -----Ariana Salvatore: Welcome to Thoughts on the Market. I'm Ariana Salvatore from Morgan Stanley's US Public Policy Research Team.Alex Straton: And I'm Alex Straton, head of the North America Softlines Retail and Brands team.Ariana Salvatore: On this episode of the podcast, we'll discuss some key policy issues that may play into the U.S. presidential election and their potential impact on businesses and consumers.It's Tuesday, April 2nd, at 10 am in New York.Election season is fully underway here in the U.S. and as in past election cycles, trade policy and tax reform are once again a big concern.With that in mind, I wanted to discuss the potential implications on the retail space with my colleague Alex. So, let's start there. In general, Alex, how are retail stocks impacted leading up to the U.S. presidential elections?Alex Straton: So, look, this kind of surprised us when we had looked into some of this data. But if you look at the last six elections or so, on a full year basis, trading activity can be super volatile in my coverage; and it depends on what's at stake.But what we do broadly observe is back half underperformance to a bigger magnitude than is typical in a normal year. So, there is pressure on these stocks, in a way that you don't see in non-election years. Makes sense, right? Kind of a makes sense hypothesis that we confirmed. But I think the more interesting nugget about Softlines, Retail and Brand stocks leading into elections is that the higher frequency data can actually look worse than what actually comes to fruition in the top line or the sales numbers.So, by that I mean, you'll see surveys out of our economics team or out of, you know, big economics forums that say, ‘Oh, sentiment is getting worse.’ And then we'll see things like traffic is getting worse, these higher frequency indicators; and they actually end up almost exacerbating the impact than what we actually see when we get the true revenue results later on.So, my point being -- beware, as you see this degradation in the data; that doesn't necessarily mean that these businesses fundamentals are going to deteriorate to the same degree. In fact, it shows you that -- yes, maybe they're a little bit worse, but not to that extent.Alex Straton: So, Ariana, let's look at the policy side. More specifically, let's talk about some potential changes in tax policy that's been a hot topic for companies I cover. So, what's on the horizon, top down?Ariana Salvatore: Yeah, so, lots of changes to think about the horizon here.Just for some quick context, back in 2017, Republicans under former President Trump passed the Tax Cuts and Jobs Act, and that included a whole host of corporate and individual tax cuts. The way that law was structured was set to start rolling off around 2022, and most, if not all, of the bill is set to expire by the end of 2025.So that means that regardless of the election outcome, the next Congress will have to focus on tax policy, either by extending those cuts, or allowing some or all of them to roll off. So, in general, we think a Democratic sweep scenario would make it more likely that you would see the corporate rate, perhaps tick up a few points; while in a Republican sweep, we think you probably would maintain that 21 per cent corporate rate; and perhaps extend some of the other expiring corporate provisions.So, Alex, how do you expect these potential changes in the corporate tax side to impact the retailers and the brands that you cover?Alex Straton: Yeah. So, high level, I think about it on a sub-sector basis. And so, the headline you should hear is that my brand or wholesale coverage, which has more international revenue experience exposure, is better off than my retail coverage, which has more domestic or North America exposure.And it all just comes back to having more or less foreign exposure. The more North America exposure you have, the more subject you are to a change in tax rate. The more foreign exposure you have, the less subject you are to a change in tax rate. So that's the high-level way to think about it.We did run some analyses across our coverage, and if we do see the US corporate tax rate, let's say, lowered to 15 per cent hypothetically, we'll call that the Trump outcome, if you will. We calculate about a 5 per cent average benefit to 2025 earnings across our coverage. Now on the other hand, if we see something like a corporate tax rate that goes to 25 per cent, Biden outcome -- let's just label it that. We calculate 3 per cent average downside to the 2025 EPS estimates in our coverage.So that's how we sized it. It's not a huge swing, right? And the only reason why there's what I would call more of a benefit than a downside impact of that analysis is because of where the current tax rate sits and the relative magnitudes we took around it.Alex Straton: Now back over to you. You've highlighted trade policy as another key issue for the [20]24 election. Why is it so crucial in this election cycle compared to prior ones we've seen?Ariana Salvatore: Right. So, in contrast to some of the tax changes that we were just talking about, those would require full congressional agreement, right?So, you need either sweep scenario to make changes to tax policy in a really significant way. Trade policy is completely different because it is very much at the discretion of the president alone. So, to that end, we've envisioned a few different scenarios that can range from things like targeted tariffs on particular goods or trading partners, you know, something akin to the first Trump administration; to things like a universal baseline tariff scenario, and that's more similar to some of the more recent proposals that the former president has been talking about on the campaign trail.So, there are a whole host of different circumstances that can lead to each of those outcomes, but it's critically important, that level of discretion that I mentioned before. And we think for that reason, that investors really need to contemplate each of these different scenarios and what they could mean for, you know, macro markets and their individual stocks that they cover. Because, frankly, a lot can change.So, to that point, how do you think changes in trade policy are going to affect the side of the retail sector that you cover? Obviously, you mentioned North American exposure, so I imagine that's going to be critical again.But what kind of businesses will be most affected under the different scenarios that I just mentioned?Alex Straton: Yeah, so the way we examined this on our end, so from a Softlines, Retail, and Brands perspective, was looking at what a incremental China tariff means.I do think there's important background for people to understand in my space that differs this time around versus an election cycle, you know, four or eight years ago, whatever it may have been -- in that my companies have intentionally diversified out of China.The fact I love to give people is that US apparel imports from China has fallen from nearly 40 per cent to 20 per cent in the last, you know, decade or so; with 10 points of that in the last five years alone. So, the headline you should hear is there's not as much China exposure as there used to be. So that's good if there is a tariff put on for my companies. But with that backdrop, turning to the numbers, we have about 20 per cent cost of goods sold exposure to China on average across Softlines, Retail and Brands businesses.So, if that goes up by an incremental 10 per cent what we calculate is about a 15 per cent impact to 2025 earnings across my coverage. One final thing I would say is that it's very rare for businesses to have a North America based supply chain. But there are some companies -- very few, but select ones -- that do have a majority domestic supply chain. You can think about some of the favorite jeans you might wear on an everyday basis. Maybe more often than not, you don't realize they're actually made in America. And that's a benefit in a scenario like that.Ariana Salvatore: Makes sense. Alex, thanks for taking the time to talk.Alex Straton: It was great speaking with you, Ariana. Thanks for having me.Ariana Salvatore: And thank you for listening. If you enjoy Thoughts on the Market, please leave us a review wherever you listen to the show and share the podcast with a friend or colleague today.

2 Apr 20247min

Our Global Chief Economist surveys recent US and Australian census data to explain immigration’s impact on labor supply and demand, as well as the implications for monetary policy. ----- Transcript -----Welcome to Thoughts on the Market. I'm Seth Carpenter, Morgan Stanley's Global Chief Economist, along with my colleagues bringing you a variety of perspectives. And today, I'll be talking about immigration, economic growth, and the implications for monetary policy.It's Monday, April 1st, at 10am in New York.Global migration is emerging as an important macro trend. Some migration patterns change during and after COVID, and such changes can have first order effects on the population and labor force of an economy.That fact has meant that several central banks have discussed immigration in the context of their economic outlook; and we focus here on the Fed and the Reserve Bank of Australia, the RBA.In the US, recent population estimates from the CBO and the census suggests that immigration has been and is still driving faster growth in the population and labor supply, helping to explain some of last year's upside surprise in non-farm payrolls. In Australia, the issue is even longer standing, and accelerated migration in recent years has provided important support to consumption and inflation.From a macro perspective, immigration can boost both aggregate demand and aggregate supply. More specifically, more immigration can lead to stronger consumption spending, a larger labor force, and may drive investment spending.The permanence of the immigration, like some immigrants are temporary students or just visiting workers, the skill level of the migrants and the speed of labor force integration are consequential -- in determining whether supply side or demand side effects dominate. Demand side effects tend to be more inflationary and supply side effects more disinflationary.In Australia, the acceleration in immigration has played an important driver in population growth and aggregate demand. In the decade before COVID, net migration added about a percentage point to the population growth annually. In 2022 and 2023, the growth rate accelerated beyond two percent. The pace of growth and migration and the type of migration have supported consumption spending and made housing demand outpace housing supply.Our Australia economists note that net migration will likely remain a tailwind for spending in 2024 -- but with significant uncertainty about the magnitude. In stark contrast, recent evidence in the US suggests that the surge in immigration has had a relatively stronger impact on aggregate supply. Growth in 2023 surprised to the upside, even relative to our rosier than consensus outlook.Academic research on US states suggests that over the period from 1970 to 2006, immigration tended to increase capital about one for one with increases in labor -- because the capital labor ratio in states receiving more immigrants remained relatively constant. That is, the inflow of immigrants stimulated an increase in investment.Of course, the sector of the economy that attracts the immigrants matters a lot. Immigrants joining sectors with lesser capital intensiveness may show less of this capital boosting effect.So, what are the implications for monetary policy? Decidedly, mixed. In the short run, more demand from any of the above sources will tend to be inflationary, and that suggests a higher policy rate is needed. But, as any supply boosting effects manifest, easier policy is called for to allow the economy to grow into that higher potential. So, a little bit here, a little bit there. Over the long run, though, only a persistently faster growth rate in immigration, as opposed to a one-off surge, would be able to raise the equilibrium rate, the so-called R star, on a permanent basis.Thanks for listening. If you enjoy the show, please leave us a review wherever you listen to podcasts and share Thoughts on the Market with a friend or a colleague today.

1 Apr 20243min

A landmark settlement with the National Association of Realtors will change the way brokers are paid commissions. How would this affect people looking to buy or sell homes? Our co-heads of Securitized Products Research discuss.----- Transcript -----James Egan: Welcome to Thoughts on the Market. I'm Jim Egan, co-head of Securitized Products Research at Morgan Stanley.Jay Bacow: And I'm Jay Bacow, the other co-head of Securitized Products Research.James Egan: And on this episode of the podcast, we'll be discussing some proposed changes to the US housing market. It's Thursday, March 28th, at 1pm in New York.Jay Bacow: Jim, two weeks ago, the National Association of Realtors (NAR) settled a case that could fundamentally change how commissions are paid to brokers. Acknowledging that there's a few months until this is all going to get approved, it looks like sellers are no longer going to have to compensate buyers’ agents. Which means that the closing cost that sellers have to pay is going to come down from the current 5 to 6 per cent to brokers to something more in the context of 3.5 to 4 percent -- based on estimates from many economists. What does this mean for the housing market?James Egan: So, this is certainly a settlement worth paying attention to.There are a lot of moving pieces here, but some of our first thoughts. Look, if we're lowering the ultimate transaction costs when it comes to selling homes, we do think that -- all else equal and probably a little bit more into the future -- it's going to lead to a higher volume of transactions. Or a higher level of turnover in the housing market.Now sellers no longer having to compensate buyers’ agents. That becoming something that buyers will need to do -- that could, at least from a perception perspective, increase the cost for buyers at a place, where we're already at one of our least affordable points in several decades. So, when we think about an increased level of transaction volumes; if that means, especially in the near term, or especially where we are right now, a little bit of an increase in for-sale inventory, combined with some of the affordability issues -- maybe it weighs a little bit on home prices. But our bottom line here is we think from a home price perspective, largely unchanged here. From a transaction volume perspective, all else equal, you could see a little bit of a pickup.Jay Bacow: All right. But Jim, haven't you been calling for some of the story already with increased housing activity, causing home prices to end 2024 slightly below 2023. Does this then change the narrative at all?James Egan: No, I don't think this changes the narrative. If we go back into that call just a little bit, our call for the marginal decrease in year over year home price growth was driven by growth in for-sale inventory this year. We're seeing that steady growth in existing listings over the past couple of months.Now, the most recent housing start print was also positive from this perspective. Single unit housing starts were up for the eighth month in a row and have now increased 11 per cent from their local lows, which were in June of 2023. I think it's also worth pointing out over that same time frame, five plus unit starts, multi-unit housing, they're down in almost every single one of those months -- all but one of them. And they're down 19 per cent from that same month, June of 2023. But that's probably something for another podcast.Jay Bacow Alright. Well, I think there's two more things we should include in this podcast. First, this settlement isn't the only factor that could increase housing activity. Recently, around the State of the Union [address], President Biden announced a number of plans that could also contribute.Now, some of them require congressional approval, including a $10,000 middle-income first-time homebuyer tax credit. And then a separate $10,000 tax credit to middle class families that would sell their home below the median income in the county to help account for some of these lock-in effects that you mentioned.Jay Bacow: However, he also announced a pilot program that would eliminate total insurance fees for some low-risk refinance transactions. And that one doesn't require congressional approval; it's getting put in place as we speak, and that would save homeowners about $750 in closing costs on a refinance.James Egan: Interesting. So, if I'm hearing you correctly, the ones that would require congressional approval, they're more on the -- what we would call housing activity side: sales, purchase volumes. Whereas the one that didn't was on the refinance side. Now, presumably there's not much refinance activity going on right now.Jay Bacow: That's a correct presumption. Right now, we estimate that only about 3 per cent of homeowners have a critical incentive to refinance 25 basis points versus a prevailing mortgage rate. So, this is going to matter a lot more if we rally in rates. Realistically, we think we need a mortgage rate to get closer to 5 per cent than the current level for this to really matter.But I imagine that's probably a similar case with the NAR settlement as well.James Egan: Exactly. And that's why I made a point to say, all else equal, we think this is going to lead to a higher volume of transactions or a higher turnover rate in the housing market. It's because of that lock-in effect. Right now, so much of the homeowning distribution is well below the prevailing mortgage rate, that any real impacts of this we think are just going to be on the margins.Jay Bacow: Alright, so there's a lot of changes are coming to the housing market. They're likely to impact the market more if rates rally and are more of the back half of the year, next year event than this summer.Jim, thanks for taking the time to talk.James Egan: Great speaking with you, Jay.Jay Bacow: And thanks for listening.If you enjoy Thoughts on the Market, please leave us a review wherever you listen, and share the podcast with a friend or colleague today.

28 Mar 20245min