A New Inflation Regime
Rising wages and housing costs suggest higher inflation in the years ahead; capital spending on renewable energy and carbon‐neutral initiatives will likely be inflationary longer-term. Thus, we think it is unlikely that inflation returns to pre-COVID levels, despite productivity improvements gained by businesses and reductions in supply-chain bottlenecks.
While the Federal Reserve has broadcast a likely shift in monetary policy, it is likely to remain highly accommodative, with real (inflation-adjusted) interest rates below zero. We don’t expect the economy to slow below trend. Debt-financed government spending on infrastructure and social programs is also likely to support demand in an economy already well supported by previous monetary infusions and high savings rates.
Housing Market Rolls On
We expect the supply/demand imbalance in housing to support price increases in 2022. Housing prices have exceeded expectations as limited supply and competition met multi-generational demand. COVID and the advent of hybrid work has meaningfully altered housing preferences.
Low inventories, particularly in the fastest growing cities, are likely to persist with little identifiable new sources coming to the market in the near term. Since the Global Financial Crisis, underwriting standards have improved as evidenced by average FICO scores increasing and Loan to value ratios declining. Importantly, lenders also no longer offer affordability loans such as pay option adjustable-rate mortgages. Rising prices for underlying assets coupled with strong underwriting standards should generally support mortgage-related debt instruments.
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