Thursday March 16

Stocks eased back today after positive sentiment from yesterday failed to continue. The S&P 500 fell 0.2% to 2,381 and the Dow Jones lost 0.1% to 20,933. The KBW Bank index rose 0.5% and the DJ Utility average fell 1.3% which reversed some of yesterdays movements. Economic data today showed that housing starts rose by slightly more than expected however permits were slightly lower than expected. Jobless claims data came in strong as usual and the JOLTS report showed that there are more than 5.6M jobs open which is higher than last month. In the euro area there was a sigh of relief after Geert WIlders election outcome showed that his platform didn’t garner as much support as had been expected. After the FOMC statement yesterday markets are pricing in 1.5 more rate hikes this year which is slightly lower than the Fed’s expected 2. The two year Treasury yield rose 4bp to 1.34% after the rally yesterday. The ten year Treasury yield rose 4bp to 2.53%. Dramatic movements yesterday might be attributed to a short squeeze in Treasury markets as net short positions had accumulated quite heavily. USD was weaker on the day against peers. USD fell 0.3% against EUR to $1.0768 after concerns were alleviated after the Dutch election outcome. USD fell 0.1% against JPY to Y113.25. USD lost 0.6% against GBP after a slightly more hawkish than anticipated BoE meeting. The 10 year gilt yield rose 4bp to 1.25% a lone hawkish dissenter voted to raise interest rates at this meeting. Oil prices were for the most part unchanged. WTI and Brent each lost less than 0.1% to $48.84 and $51.78 respectively.

Cliff Asness of AQR published a paper that puts forward the difficulties of factor timing. Factor investing simply refers to the process of using characteristics such as economic growth, inflation, minimum volatility, quality, size, momentum, and value. These investment themes can be seen as foundations of investing that provide consistent returns over a long period of time. Factors can be used to find excess return in a portfolio while diversifying away risk since some factors respond to different drivers. Cliff Asness discusses current market conditions as well as the overall effectiveness of trying to time factors. First he found that using valuation factors he does not find that current valuation metrics are too extreme based on historical levels. Additionally he found that trying to time factor investments based on market conditions is an ineffective strategy. He also argued against contrarian factor investing. He wrote in favor of factor investing using factors other than price which improves diversification. Even if a certain style factor or a group of style factors appears to be expensive, that doesn’t suggest to try and time your position based on that alone. On a similar note if a certain style factor appears to be cheap that does not mean that is a sure thing investment. He does not think that value factors are currently expensive.

Prudential Financial, one of the largest life insurers, is shifting is business to better adapt to customer trends and concerns. Surveys have shown that people are more concerned about outliving their retirement savings than they are about the death of the primary money maker in a family. As such Prudential is turning away from its traditional life insurance business and focusing more on its $1tn investment management division which is known as PGIM. In 2013 life and group insurance made up nearly 27% of Prudential’s $1.3bn in operating income, with asset management, individual annuities, and retirement services making up a combined total of 29%. Now life and group insurance makes up just 4.3% of operating income and asset management, individual annuities, and retirement services make up more than 51%. This is reflective of demographic trends such as people living longer as well as market trends such as low interest rates. PGIM is even turning into the ETF space as a provider for clients. They will offer fixed income ETFs as well as smart beta equity ETFs. PGIM will have a lot of catching up to do in the ETF space dealing with competitors such as BlackRock, Vanguard, and State Street. PGIM has also said it is open and looking to grow through acquisitions. It makes sense that insurance companies are looking to shift away from traditional life insurance businesses since sales of policies are down more than 40% versus the 1980s.

Goldman Sachs has been buying delinquent mortgages en masse from Fannie Mae both to appease regulators and earn a profit. Over the last year Fannie Mae auctioned off $9.6bn in non-performing mortgage loans because the agencies don’t want to hold losses any restructuring mortgages is a time intensive process. Goldman Sachs has purchased $5.7bn of those delinquent mortgages, and that figure refers to the amount of unpaid loan balances. Those types of loans typically sell for between 50 and 90 cents on the dollar. Goldman’s reason for doing so is two dimensional. In some cases the mortgages GS is buying have been delinquent for up to five or six years. Last year Goldman paid a $5.1bn fine for MBS related misdeeds leading up to the financial crisis. As part of that package the bank said it would provide $1.8bn in “consumer relief”. By purchasing these mortgages GS is able to earn credit toward the consumer relief portion of its deal. GS can provide consumer relief by forgiving loan balances, reducing interest rates owed, or writing down some of the unpaid balances. Other banks that need to earn these credits with regulators are doing similar things however GS doesn’t originate mortgages so it needs to go elsewhere to purchase them. GS is also able to profit off of some of these deals by immediately foreclosing on the homeowner and selling the collateral. Additionally GS may restructure the loans by reducing loan balances, reducing interest rates, or lengthening the term, packaging the loans and selling them at a higher value on the secondary market. Industry analysts predict that banks can make between 5 and 15 cents on the dollar using these strategies.

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Thursday March 16

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