The Federal Researve has been hyper focused on keeping Mortgage Interest rate at historic lows for so long – few people even ask us what the rate is, they only want to know what their payment will be. They know the rates are very low… The Fed giveth, and the Fed taketh away. Both stocks and bonds fell last Wednesday after a Q&A session from Congress with Ben Bernanke.
This move caused many Economist to begin talking about “Tapering” and the BIG Question: Are We At The End Of Low Mortgage Rates in 2013?
The items we focused on will be Case Shiller / U.S. existing home sales and the monthly Unemployment numbers showing a continued improvement in the Economy.
Even though home sales across the United States have likely been restrained by limited available inventory in recent months, the pace of sales reported for April was the strongest of the expansion to date (excluding the home buyer tax credit periods).
The real estate sales mix has also become healthier lately with distressed home sales accounting for only 18% of the market in April, down from an average of 23% in 1Q and 28% in April 2012. The median price of an existing home sale increased 11.0% over last year.
With the Fed holding rates artificially low, when the Fed stops, rates will go up – any more questions? The problem is that higher rates are often a product of the economy really picking up steam, with “really picking up steam” being somewhat subjective.
“Taper” is the big word these days. Last week there were two key phrases that spooked fixed income investors: Bernanke’s “in the next few meetings” and the minutes’ “a number of participants expressed willingness to adjust the flow of purchases downward as early as the June meeting”. June? What? What happened to all the brightest guys in the room saying rates would be here into 2014?
Mortgage Backed Securities moved sharply on these comments, bond prices dropped and mortgage interest rates moved higher. During Bernanke’s testimony he reiterated “if we see continued improvement and we have confidence that that’s going to be sustained then we could in the next few meetings … take a step down in our pace of purchases”. Th current “thinkers and economist”
will tell you that Housing brought the US Economy DOWN and the US Economy will go up only as the Housing Market sees increases.
This means continue watching the Housing Numbers as closely as we watch the Employment Numbers.
Many think rates will drop again at some point since much of the Fed-related news in the last few weeks (articles, speeches, and releases) have been contradictory. By holding rates down, it is hard for the Fed to know where rates would really be, and how those market rates would truly drive the economy. And the latest minutes (for the Apr 30-May 1 meeting) mentioned June as the time at which tapering may start (“a number of participants expressed willingness to adjust the flow of purchases downward as early as the June meeting”).
Is Quantitative Easing going to end this week? No – the third round of it (QE3) is still going to go on in some manner for quite some time. Quantitative Easing is the concept of the Fed becoming a buyer of Treasuries and Bonds to try and stimulate the economy, and the reasons are still present. The Fed does QE when it is hoping to (1) create inflation and avoid a deflationary economy, (2) lower the unemployment rate, and (3) boost stock prices. For this latest round of Quantitative Easing, the Fed especially wanted to help stimulate the housing market and our economy overall. Certainly there is no inflation, stocks are doing well, and many housing markets have shown signs of improvement for several months.
This is not an easy “tapering project,” because the US Federal Reserve officials could face a backlash from paying billions of dollars to commercial banks when the time comes to end QE3 and let interest rates creep higher. Remember that the Fed, one piece of the government, owns billions of dollars of debt, including a lot of what is issued by another piece of the government. The growth of the Fed’s balance sheet means it could pay $50-$75 billion a year in interest on bank reserves at the same time as it makes losses and has to stop sending money to the Treasury.
What kind of public relations issues will it face after the Fed was yelled at for rescuing banks during the financial crisis? In an interview a while back, James Bullard, president of the St Louis Fed, said: “If you think of the profitability of the biggest banks, if you’re going to talk about paying them something of the order of $50 billion – well that’s more than the entire profits of the largest banks.”
What is he talking about? All banks hold reserves at the Fed. The central bank has boosted its balance sheet to more than $3 trillion as it buys assets to drive down long-term interest rates through QE, QE2, and QE3. The Fed pays for the assets by creating bank reserves, which now amount to around $2-2.5 trillion. At the moment it only pays 0.25% interest on those reserves.
If the Fed plans to raise interest rates before it sells assets, interest of 2% on $2.5 trillion of reserves would run to $50 billion a year.
On the bank’s side, that interest may not turn into profits for the banks. They will have to pass the revenues on by paying more interest to their depositors – but it could still add to a populist backlash in recent years against the Fed and the big banks. It could sell assets – but just think of what that would do to prices and rates versus simply scaling back purchases.
Continuing along with this primer, the Fed remits all of its earnings to the Treasury and has paid hundreds of billions in the last four years. But some of those gains will be reversed when it sells assets bought at today’s low interest rates at a time when rates are higher. Hopefully the Treasury is not counting on that income forever.
The Fed could increase interest rates on excess reserves more slowly than benchmark rates, or more reserves could be shifted out of the Fed and lent out as the economy improves. Still, the eventual tightening could lead to substantial amounts being transferred to commercial banks from the Fed, given the amounts of cash they have parked there. (The last figure I saw indicated that Wells Fargo had about $100 billion sitting at the Fed.)
Suffice it to say, with last week’s upward movement in the Stock Market, we also saw mortgage rate yield curve steepened dramatically (short term rates didn’t do much, long term rates shot higher), but from a technician’s perspective, we’re still below some supposed support level of 2.07% on the 10-yr Treasury Bills. And prior to all the jawboning, the 10-year Treasury note was up (better) by .5 point (1.89% yield).
And Bernanke did say that the job market remains weak overall: the unemployment rate is still well above its longer-run normal level, rates of long-term unemployment are historically high, and the labor force participation rate has continued to move down. And the Congressional Budget Office (CBO) estimates that the deficit reduction policies in current law will slow the pace of real GDP growth by about 1-1/2 percentage points during 2013, relative to what it would have been otherwise.
In present circumstances, with short-term interest rates already close to zero, monetary policy does not have the capacity to fully offset an economic headwind of this magnitude.
So last week the focus was on increased concerns of Fed tapering its QE program in the coming months, increased volatility and a sell-off in the Japanese markets given the lack of clarity around the Bank of Japan purchase operations, and continued agency MBS under-performance which has kept buyers on the sidelines. In addition, the strength in the equity market despite concerns of tapering in the United States Treasury and Mortgage Backed Securities market has also contributed to the sell-off.
Jobless claims for the past couple of weeks have shown the expected growth, the Case Shiller housing numbers come out this morning and are expected to show that the Housing market is continuing to grow. Rates are pretty much where we left off on Wednesday, with the 10-yr at 2.02% and agency Mortgage Backed Securities prices roughly unchanged.
Bottom line – we’ve lost about 1/2% of mortgage interest rate in the past 2 weeks. If you have a mortgage locked in – be sure you get all documents to the Loan officer so that there’s no delay in closing – because you could lose your mortgage rate. If you are looking for a home this summer – don’t be surprised if you are quoted a mortgage rate somewhere close to 4%.
Refinancing? If you are hoping the FHFA will extend the really low FHA PMI rates for refinances beyond the May 31, 2009 date – hope it happens SOONER than Later! FHA is changing it’s policy on how long FHA PMI will stay on a loan next week – and the question we are asking is weather or not the move to push low FHA PMI out to May, 2010 will mean those folks are stuck with FHA PMI on their loan for the life of the loan… we expect that it will.