THE BASIS POINT

How Will Rates Move In These Final Weeks of the Fed’s Mortgage Stimulus Program?

 

This report covers weeks 60-61 of a mortgage bond purchase program by the Federal Reserve—here’s weeks 57-59. In the last two weeks, the Fed bought $21b net of mortgage bonds as follows: $11b Feb 18-24, $10b Feb 24-Mar 3. For the past 6 months, the Fed has focused weekly buying on 4.5% and 5% coupons (tables below), which represent outstanding loans in the 4.75%-5.125% and 5.375%-5.75% ranges respectively. This makes sense since most of the new bond supply coming to market from new loans being made are at those rate ranges.

Rates have held below 5% since dipping last week, but are advancing higher this morning’s release of the February jobs report which was interpreted as positive despite the economy losing 36k jobs and forced-into-part-time workers increasing by 500k. Rates are still just a touch above all-time lows, but how long will it stay this way?

How Long Will Current Rates Last?
The purpose of the Fed mortgage bond buying program initiated January 1, 2009 is to elevate mortgage bond prices which pushes rates down. It’s very likely that the record rate low markets hit on November 25, 2009 will remain the record low. The Fed will continue buying through the end of this month until they reach their $1.25t budget (see program-to-date tally below), and then markets will begin to see just how much impact the Fed buying will have on rates.

As the Fed backs off their buying, total mortgage bond supply is also expected to decrease: most estimates call for 2010 loan originations that are 40-50% less than 2009’s. So this could prevent a big rate spike that many think will happen as the Fed ends its mortgage bond buying.

Also, three weeks ago, New York Fed President William Dudley, the man who runs the Fed’s MBS buying program, said there could be more Fed MBS buying if the economic recovery stalled or rates spiked too much, confirming the Fed’s current position that it “will continue to evaluate its purchases of securities in light of the evolving economic outlook and conditions in financial markets.”

The hope markets have (and the long-term intent of the Fed’s program in the first place) is that private MBS markets will re-emerge as the Fed eases off. This is the end game. For housing and the overall economy to generate self-sustaining recovery, there must be a private MBS market that’s not reliant on the government as a core participant.

Until we get to that stage, we can expect lots more rate volatility during 2010. This morning is no exception, with mortgage bonds down nearly 50bps, translating into roughly +0.2% in rates.

What Mortgage Bond Buying Means for Rates And Consumers
We cover the Fed mortgage bond buying closely to try to help consumers make decisions but the main point is: rates are near all-time record lows, so if you can get the right price on a property purchase you’ll get a record low rate to go with it. And if you’re looking to refi, your window is closing.

Below is an excerpt from a post we did a few weeks ago that answers the question of where rates may go by summer and why:

Rates on loans up to $417,000 are about 5% as of mid-February, and rates could rise as much as .5% by summer for three macro reasons: (1) The Fed will end it’s $1.25t mortgage bond buying program March 31, and then we’ll likely see profit taking on mortgage bonds as private investors sell, which pushes prices down and yields—or rates—up; (2) An improving economy and resulting inflationary fear will cause mortgage bonds to sell off because inflation eats up bond returns, so this would also push bond prices down and rates up; and (3) Inflation will cause the Fed to start hiking short rates from current near-zero levels. Global investors currently borrow on these short-term rates to buy long-term securities with higher returns. When short rates rise, it will erode the benefit of this interest rate trade and force selling of long-term securities—including mortgage bonds—to repay short-term loans. That selling will also push rates higher.

Tally Of Mortgage Bonds Bought By Fed
The Fed, according to their own reporting, has bought $1.219t net of mortgage bonds, which is 97.52% of their allotted $1.25t target by March 31, 2010. This isn’t an official number, it is a close tally The Basis Point has kept of weekly net MBS purchases since the Fed began buying in January 2009. Here’s the current and detailed report of the Fed’s MBS holdings.

MBSfeb18to24
MBSfeb25toMar3

 

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