Here is BAML’s (BofA Merrill Lynch) MBS team on the rate spike. Paragraph two is important. Rates last touched record lows of 3.25% in mid-January, and have risen 1.25% to 4.5% as of Friday’s close, with most of that rise coming since early May. Bernanke said last week that rising home prices compensate for higher rates (see link for context), and now BAML’s MBS gurus are saying that means rates could rise to “at least” 5% on conforming loans to $417k. Also important to note that they reference a 4.24% rate below, but that was before rates rose another .25% before closing the week.
We were wrong on our expectations for Chairman Bernanke and the Fed for this week. Our view was that the labor market is too weak to allow for early tapering of MBS purchases by the Fed, and that the Fed, particularly Bernanke, would affirm that it had a similar view and provide a soothing message for the market. Obviously, a different message was delivered this week and we are changing our views accordingly. BofAML economists note Bernanke “clarified his reaction function” and now think the Fed will announce tapering in December and will hike rates in summer 2015.
Perhaps the simplest reflection of Bernanke’s thinking was in his Q&A assertion that, due to optimism about home price gains, housing would be able to absorb increases in mortgage rates. The latest Bankrate.com reading for 30-year mortgages is 4.24%, so we would guess the Fed assumption is that a 5% mortgage rate would be acceptable. Therefore, Bernanke’s comment suggests to us that at least another 75 basis points rise in mortgage rates can be expected, as the market is likely to test the Chairman’s resolve in his willingness to taper in the face of higher mortgage rates. We would expect that this increase would pass through to agency MBS yields – obviously, a negative.
And here’s an important update on rates for jumbo loans above $417,000: