Mortgages on way to becoming a true market again
Despite recent negative headlines, the housing market remains stable—the latest builder sentiment survey came in at a relatively healthy 67 versus a 12-month average of 66. New home sales are still running ahead of the year-ago pace. And after falling to 63% in 2016 from a peak of 69% in 2004, the home ownership rate is rising again, a solid long-term tailwind. Sure, there are headwinds, including a low supply of lower-priced and starter homes. But housing’s macro underpinnings rarely all line up on the positive side of the ledger.
The bigger housing news from a fixed-income perspective is the Federal Reserve’s gradually diminishing role in the mortgage-backed securitiesmarket. In the 10 years after the global financial crisis first erupted, the Fed purchased nearly $1.8 trillion of MBS and an even larger amount of U.S. Treasury securities, ballooning its balance sheet from roughly $870 billion in August 2007 to $4.5 trillion in September 2017. These extraordinary purchases caused longer-term Treasury yields and 30-year mortgage rates to grind their way down to record lows in 2016, with the accompanying plunge in debt-service costs helping lift housing and the broader economy out of their Great Recession funk.
But now that the Fed has begun to normalize rates and shrink its balance sheet—MBS holdings are now under $1.7 trillion and are running off at a current rate of $16 billion a month—the MBS market has begun to stand on its own. As the mortgage market and mortgage rates continue to move toward finding their own supply/demand equilibrium, more and more control should fall into the hands of investors who care about total rates of return, not policy goals. This has value returning to forefront, opening opportunities heretofore unavailable under the weight of the post-crisis Fed. From our standpoint, this is a welcome turn of events—one that should get better as the Fed’s role fades, recent negative housing headlines notwithstanding.