I sent the following to my financial markets mailing list on September 22nd ...
Brian
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I made the comment to some folks yesterday after the announcement was made ... that the financial "experts" and financial media did not clue into the truly important part of the Fed announcement ... and what it may be signaling in the weeks and months ahead. The truly important part of the Fed announcement yesterday
is the change in Fed policy to reinvest all maturing and pre-pay Agency MBSs and Agency debt into new Agency MBSs and Agency debt. It is being mentioned in passing by various sources, but folks are not examining the reason why the Fed did this nor the impact it will have. Prior to this announcement, while the Fed was not allowing maturing and pre-pay (refinanced or paid off) MBS proceeds to evaporate (which is simply allowing the balance sheet to contract), they were reinvesting the proceeds into US treasuries ... not Agency MBSs and Agency debt. Even though they have not been willing to allow the balance sheet to contract, at least they purchased treasuries with the proceeds. Our country's money supply (if not backed by Gold), should at minimum be backed fully by its sovereign debt ... and certainly not a pile of mortgages that have an uncomfortable chance of default. But with the recent announcement, MBS holdings on the Fed balance sheet will no longer be declining over time (as the holdings mature and/or are repaid). The Fed balance sheet will be saddled with about $1 trillion of these holdings for a long time.
There have been rumors that the White House wishes to introduce a massive mortgage refinance program to help housing (more intervention in a market that sorely needs a "hands off" approach). These rumors have persisted for a few weeks. I am certain that Bernanke would like this as well.
Nobody knows the amount ... but such a program could be anywhere from $500 billion to well north of $1 trillion (maybe even $2 trillion). But who would be interested in buying all of that new lower yielding paper (lower yielding than the MBSs that would be refinanced)? Additionally, all other things being equal ... all of that new supply would send MBS rates higher (opposite of what the Fed, Treasury, and WH wants) ... the spread between the 10 year treasury and 30-year MBS has already been widening (probably in anticipation of such a refinancing program as nobody wants to buy-in and then get chopped off at the knees soon thereafter). Another shining example of unintended consequences ushered in by horrible anti-free market monetary and fiscal policies.
The answer is that there would be little interest in buying all of that new paper .
The program would never get off of the ground without substantial help. The flood of new paper (massive increase in supply) would usher in a rise in MBS rates ... contrary to what you want with a new refinance program ... unless someone gobbles up the supply. Whom is going to take on that paper (or a sizeable portion of it) ... at least enough to encourage other investors to jump into the pool to purchase more MBS (because a heck of a lot of paper would need to be purchased)? That question has now been answered with the Fed announcement ... which folks seem to be ignoring (everyone is focused on Operation Twist). Operation Twist by itself would simply force longer term treasury notes (6->10 year maturities) and treasury bonds (30 year) down in yield (which it has substantially since the announcement yesterday) ... while shorter term rates would rise modestly. But that is not going to help mortgage rates in and of itself. Increased demand for Agency MBSs is required to bring mortgage rates down (our mortgage industry is now completely nationalized ... Fannie and Freddie are the only buyers ... banks are not keeping any of their own paper and the private MBS market was killed in 2008). Without this increase in demand, you will simply get a widening of the spread between long term treasuries and MBSs ... until investors are more confident that these mortgage lending risks have subsided and lower spreads are justified by the present risk.
Meanwhile, holders of the re-financed MBS paper take it in the shorts (including the Fed, but nobody seems to care anymore). Which again is probably why the spread between 10 year treasuries and 30-year MBSs has been widening ... smart money anticipates new paper issuance and is not about to buy now.
Of course, the Fed is taking even more interest rate risk onto its balance sheet by rolling over into lower coupon MBSs and increasing the average duration of its treasury portfolio with Operation Twist. The average duration of the entire portfolio will soon be about 6 years, with the treasury portion of the portfolio north of 8 years ... well above normal.
Brian
HHousing got only a brief mention in President Obama’s highly anticipated jobs speech Thursday night. But it was a pledge that some pundits say is finally a step in the right direction. Others say it’s likely to have little impact.
Obama told Congress that his administration is going to work with federal agencies to refinance millions of homeowners’ mortgages at today’s record-low rates.
With those rates now near 4 percent, the president says the move could “put more than $2,000 a year in a family’s pocket, and give a lift to an economy still burdened by the drop in housing prices.”
While the specifics have not been released, it’s expected that the program will make homeowners with government-backed mortgages eligible for new, lower-rate, lower-payment loans even if they are underwater or have bad marks on their credit as a result of financial hardship.
http://www.dsnews.com/articles/obam...lions-of-mortgages-at-todays-rates-2011-09-08
