By Robert Freedman, Senior Editor, REALTOR® Magazine
Watch our videos for economic research updates further down the post.
In the midst of the mortgage meltdown it was hard to keep track of everything the federal government was doing to keep the credit freeze from sinking the economy. There was the massive bank rescue, with the idea that an equity infusion from taxpayers would shore up banks so they could start financing mortgages again; there was the temporary increase in loan limits in high-cost areas for loans backed by Fannie Mae, Freddie Mac, and FHA; and there was the first-time home buyer tax credit, now expanded to include move-up buyers.
But one federal effort that never received quite the same attention as the others, probably because it doesn’t lend itself to a term that rolls off the tongue like “tax credit” or “bank bailout,” is the Federal Reserve’s massive intervention in the mortgage-backed securities market.
Memories can be fuzzy, but roughly 18 months ago the concern was that mortgage interest rates would have to rise considerably to attract investors to Fannie and Freddie securities because their usual customers, including investors outside the U.S., no longer wanted to hold anything backed by mortgages. With no investors there could be no market liquidity until rates rose high enough to draw in money.
Enter the Federal Reserve, with a commitment to spend up to $1.25 trillion to buy the securities.
Well, that purchase commitment is set to expire at the end of March (although the Fed could decide to extend the program), and the question on analysts’ minds is whether mortgage rates will have to rise to attract investors to fill the gap left by the pull-out.
I would say the closest thing to a consensus is that rates will in fact rise but not dramatically, and not by enough to stop sales, at least by themselves. Here’s why analysts think this.
First, there’s no money to be made investing in cash. In the midst of the meltdown, investors were essentially paying the government to take their money. We’re no longer in that situation, of course, but there remains little yield in Treasurys.
Second, the return on corporate bonds, which come with no public backing, are at the point where they’re no longer that attractive. Right now “A”-rated corporate bonds are yielding spreads of about 160 percentage points over Treasurys, according to analysts.
Enter mortgage-backed securities, which come with public backing, and right now they’re yielding spreads of about 140 percentage points over Treasurys. Some analysts say the spreads would only have to rise a bit to attract money because of the safety offered by the government. As investors come into the market, spreads would narrow, keeping rates from rising too high.
That’s the thinking, at any rate, and it’s not too far from what NAR Chief Economist Lawrence Yun has been saying for a couple of months now. At his press conference earlier this week to release end-of-year 2009 and December monthly existing-home sales figures, he said mortgage rates might rise after the Fed pull-out by 70 basis points.
That’s not an insignificant amount, to be sure, but with rates today still at historically low levels, a 70-basis-point rise by itself would be unlikely to stall sales. (See 44-second video clip of Yun’s comment.)
What’s more important by far is the jobs picture, he says. If we keep shedding jobs, or even simply not adding jobs, then even continued Fed support of mortgage securities would do little to keep home sales on a growth path. (See 30-second video clip of Yun’s comment.)
For that reason, analysts who are wondering about the health of home sales in the months ahead might be looking at the wrong thing if they’re looking at the Fed pull-out. To get a sense of what the future holds, their attention should really be turned to the issue of jobs.
Full coverage of existing-home sales news conference: