Yields on Fannie Mae and Freddie Mac mortgage securities jumped by the most relative to benchmark rates in five weeks as the Federal Reserve’s unprecedented buying of housing debt drew to a close today.
Spreads on agency mortgage bonds will widen “a bit” and become more volatile after the end of the Fed’s daily purchases, though they probably won’t expand more than 0.2 percentage point, Curtis Arledge, chief investment officer of fixed income at New York-based BlackRock Inc., said today in an interview with Bloomberg Television.
“It’s been one of the more telegraphed changes we’ve seen in a long time,” said Arledge, who oversees about $590 billion at the world’s largest money manager. “The marketplace has positioned itself for the Fed to be absent.”
The Fed’s $1.25 trillion of purchases in the $5.4 trillion market of mortgage securities guaranteed by government-supported Fannie Mae and Freddie Mac or federal agency Ginnie Mae had helped drive yield premiums to the lowest on record. The difference between yields on Fannie Mae current-coupon 30-year fixed-rate securities and 10-year Treasuries increased 0.05 percentage point today to about 0.65 percentage point as of 4 p.m. in New York, according to Bloomberg data.
The spread reached 0.59 percentage point on March 10, the lowest since at least 1984, after the gap averaged 1.32 percentage point from 2000 through 2009. The yields, which guide rates on new home loans, today climbed 0.02 percentage point to 4.5 percent, matching the highest level since January.
Buying Home Loans
The U.S. central bank began buying home-loan bonds in January 2009 to restrain financing costs amid the worst housing slump since the 1930s. Home prices in 20 metropolitan areas tumbled 33 percent from July 2006 through April 2009, then rose for five months before declining by a lesser amount over the next four, according to an S&P/Case-Shiller index.
“The program was a major success and kept home prices from really collapsing,” Scott Simon, head of mortgage-backed securities at Newport Beach, California-based Pacific Investment Management Co., manager of the world’s biggest bond fund, said today in an e-mail.
“They did make MBS become expensive (they probably didn’t need to buy the last $400 billion), but money managers and others are now underweighted and will repurchase if MBS underperform,” he said.
About 53 percent of more than 150 mortgage investors surveyed by JPMorgan Chase & Co. in the middle of this month held less of the debt than found in benchmark bond indexes.
Asian Investors
“When I was in Asia a few months ago, visiting maybe 30 clients, they were saying, when is the Fed going to stop buying mortgage-backed securities, because we’d like to,” Brian Lancaster, the head of asset- and mortgage-backed securities strategy at Stamford, Connecticut-based RBS Securities Inc., said today in a Bloomberg Television interview.
The Fed today is also scheduled to stop buying the corporate debt of Fannie Mae, Freddie Mac and the Federal Home Loan Bank system, after $172 billion of purchases, according to data compiled by Bloomberg. The central bank ceased obtaining Treasuries in October, after acquiring $300 billion.
On a so-called option-adjusted basis, which takes into account the possibility of prepayment, spreads for the securities backed by Washington-based Fannie Mae against interest-rate swaps had already widened, according to Bloomberg data. Option-adjusted spreads rose today by 0.04 percentage point to 0.14 percentage point, the highest since September, after climbing from negative 0.22 percentage point on Dec. 21.
Mortgage-Bond Returns
Agency mortgage securities returned 1.67 percent this quarter, the most since the third quarter, according to Bank of America Merrill Lynch’s Mortgage Master Index. Through yesterday, the debt returned 0.59 percentage point this month more than Treasuries that have maturities similar to the securities’ projected average lives, the most since October, according to Barclays Capital index data.
The average rate on a typical 30-year fixed-rate mortgage was 4.99 percent in the week ended March 25, according to McLean, Virginia-based Freddie Mac. That was up from a record low of 4.71 percent in the week ended Dec. 3, and down from a high last year of 5.59 percent in June.
Increases in Treasury yields this month have driven home- loan rates higher, as record auctions of government notes contributed to an increase in 10-year yields to 3.83 percent today, from 3.6 percent on March 4, Bloomberg data show.
The expected strength in the market for mortgage bonds with government-backed guarantees after the Fed’s exit differs with the still limited demand from banks and others for new housing debt with credit risk, Arledge and Lancaster said.
Mortgages or Corporates
While some investors believe the end of the Fed program will draw bond buyers to mortgage securities from corporate notes, hurting company-debt spreads, those premiums remain wide enough to attract investors as the economy improves, Roger Bayston, a senior vice president in San Mateo, California-based Franklin Templeton Investment’s fixed-income group, said.
That means investors may not shift much until corporate spreads tighten further, Bayston, who helps oversee more than $200 billion of bonds, said in a March 17 telephone interview. Spreads on investment-grade corporate bonds fell to 1.49 percentage points yesterday from a record 6.18 percentage points in 2008, after averaging 1.05 percentage points from 2003 through 2007 when the economy grew, Barclays Capital data show.
“The risk there is declining, and the return opportunities remain pretty solid,” Bayston said. “The deleveraging that continues to happen in corporate America has been good for corporate credit.”
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