How Does Quantitative Easing Actually Work?, Treasury Auctions Main News This Week
Which Bonds Are Mortgage Rates Tied To?
Every investor in fixed-income securities has choices to make: U.S. Treasury debt, foreign bonds, corporate notes, etc. And each investor has limited capital, the supply of each of those is carefully monitored, and a large amount of one type can drive prices down and rates higher and compete for investment dollars. It seems that municipal bonds are about to see a lot of supply hit the market – over $10 billion this week, and $16 billion in the next 30 days, according to Ipreo LLC and The Bond Buyer. Some believe that issuers will have to make the yields more attractive to find a home for the bonds and get the deals done. Meanwhile U.S. mortgage bonds still see pretty strong demand which keeps consumer mortgage rates low.
How Does Fed Bond Buying Actually Work?
It has almost been a week since the FOMC came out with its $600 billion bond buying program. How exactly will it work? The Fed, although it does not print money per se, effectively does so by expanding its balance sheet – currently triple where it stood in 2007. The Federal Reserve Bank of New York will actually buy more like $850-900b of government debt by next summer, a chunk of which will come from the expected $250-300 billion of income/early pay-offs from the $1.2 trillion of mortgages it purchased from January 2009 through March 2010. Most of those government securities will be in the two- to 10-year range – which is the part of the Treasury yield curve that gives mortgage trading desks some clues about their trades and therefore gives mortgage banks some clues about rate sheet pricing. Given supply and demand, as the Fed buys Treasuries, the rates on those securities will fall, and it is believed that rates on mortgages, corporate debt and other loans pegged to the Treasury securities will also drop, and cheaper loans will push Americans to spend. And if companies start to spend and expand, it will lead to more hiring, etc.
A mortgage industry vet wrote, “Now, here I am printing money out of thin air, creating electronic entries for specified amounts on my own balance sheet. I then, on my own wire, aka Fed Wire, send that amount over to the US Treasury Department’s operating account. At exactly that same moment I simultaneous enter an asset entry on my own balance sheet which is identified by a specific CUSIP number for that particular U.S. Treasury bill or note that I just purchased with my magic money. Voila – I am making interest on money that didn’t exist 30 days ago. This interest income becomes a part of my operating revenue. I have purchased a trillion or so dollars of bonds and notes, and I have earned (billions) of dollars in interest, from cash that didn’t exist until I waived my magic money making wand. But if I really am another branch of the Federal government, why would I continue to collect interest from myself? Said another way, why wouldn’t I simply forgive the US Treasury Debt?”
Bond Insurer Ambac Declares Bankruptcy
As expected, Ambac, the bond insurer, declared Chapter 11 bankruptcy yesterday, seeking relief on $1.6 billion of debt. “The Company was unable to raise additional capital as an alternative to seeking bankruptcy protection and was also unable to agree to terms with an ad-hoc committee of certain senior debt holders in order to restructure its outstanding debt through a prepackaged bankruptcy proceeding.”
Treasury Auctions Main News This Week
Yesterday had very little market-moving news, although mortgage prices finished the day worse by .5 in price on $1.4 billion of sales. It appeared that most traders spent their day rolling hedging positions than in bidding bonds. Little was said about the 3-year US Treasury note auction, other than it was yielding .56% in pre-auction trading, which would be the least ever. Today is another day of no news, but the US government will be selling $24 billion in 10-year notes (and $16 billion of 30-year bonds tomorrow). The “benchmark” 10-yr is sitting at 2.55% and mortgages are roughly unchanged.