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Can Bernanke Keep Mortgage Rates This Low Into 2015?

I’ve been a vocal critic of Ben Bernanke.  I thought his Quantitative Easing schemes would eventually create a bubble in the Treasury and mortgage-bond markets.  Bernanke has committed to keeping rates low for another 18-24 months.

I was wrong.  I violated the first rule of market prognostication (from the late Marty Zweig):  Don’t Fight the Fed

Let me give you some background.  Mortgage rates are driven by the secondary market (which is a fancy word for bond buyers on Wall Street).  I offered an abbreviated history of secondary mortgage marketing , six years ago, here on Bloodhound Blog.  Essentially it works like this:

  • Home buyer applies for a loan with a mortgage originator
  • Originator processes the loan for submission to a lender
  • Lender underwrites the loan to agency guidelines (FHA, FNMA, FHLMC, VA)
  • Lender funds the loan
  • Lender secures guaranty from agency
  • Lender retains servicing rights but assigns rights to principal and interest to an investment bank
  • Investment bank packages loans in a pool, carves up the pool into bonds, and sells them to individual investors

Two things are important in secondary marketing:  the agency guaranty and the ability to sell the bonds.  The agency guaranty offers a sense of security to the investors and the demand for the bonds must be there.  When I thought rates would rise, because of runaway inflation, I posited the the Federal Reserve Bank’s power was quickly deteriorating.  What I hadn’t anticipated was that central banks, all over the word, were in even worse shape.  The Fed might be ugly but she’s the prettiest gal at the dance.

Last month, I asked Alan Nevin, economist with the London Group, “What if the buyers run away?”  To which, he replied, “Where will they go?”.

This is not a pollyannish answer.  Where WILL investors go?  I offered these options:  Hong Kong, Australia,  and Canada

Then it hit me–the world wide capital market is huge and the options for capital investment are limited.  Imagine the global capital market as a 64-gallon trash can.  The Hong Kong, Australian, and Canadian bond markets are like a shot glass, a pint bottle, and a quart can.  Even if you tried to dump all that trash into those three little receptacles, you’d have at least 63 gallons of trash which needed a landfill.

The domestic treasury and mortgage-backed securities markets are that landfill—a great place to dump all of that trash.  Maybe Hong Kong, Australia, and Canada can pull some capital away from the domestic bond markets but The Fed-controlled landfill is still a good place for investment.  For now…

 

 

 

Related posts:
  • Lower June, 2009 Mortgage Rates Rely On Central Bank Action
  • Why The Fed Matters to Real Estate
  • Fed Cuts Rate to 5.75%

  • 3 comments

    3 Comments so far

    1. cooksquared April 3rd, 2013 2:56 pm

      Glad to see everyone writing again. I think its more than that Brian. With higher lending standards, the demand for loans is still artificially low. Until future homeowners get their credit ratings together, you are going to be hard pressed to see any major change in the Fed.

      Homebuying / homebuilding are huge economic drivers. Homebuilding is coming back slowly. Given it two or three more years and I think we will either have a bubble or higher interest rates. Beyond the US, it would be good to see Europe get back on track. China and South America seem to be slowing, so I think you still have a while before inflation is a worry.

    2. Brian Brady April 3rd, 2013 5:23 pm

      “Glad to see everyone writing again.”

      We need to hear from you, Sir. I always like your take on things

    3. Patrick April 5th, 2013 4:55 am

      Cooksquared is right – The next few years WILL see an upturn in interest rates.

      Europe is really struggling at the moment though (look at Cyprus) – they may be in it for the long haul….