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The Countdown to March 31st

There’s only a few days left until The Fed exits the Mortgage Back Securities Purchase market…..and there is no shortage of opinions of what that means for mortgage rates available to consumers.

In one camp are those who believe that when the only purchaser of any product (whether they be mortgages or pencils) decides to stop buying, something has to entice other buyers to enter into the market.   Typically, with mortgages, that means higher yields, which translates into higher mortgage rates.

In the other camp, there is a belief that there are plenty buyers of mortgages that have been sitting on the sidelines who are ready to pick up the slack.  As a result, they predict little or no effect on interest rates.

But really, it’s not that simple.  There are other things that are going to have some influence on the bond market.

1. Fed Policy:

Ben Bernanke & friends have been vocal in their belief that rates will stay low for an extended period of time.   As explained in a previous blog, the Fed does NOT control mortgage rates.  Their impact is felt in the stock market.  Low rates, higher stock prices (and resulting higher mortgage rates).

2. Inflation:

Inflation is the enemy of interest rates.  To combat inflation (which crushes economic growth), the Fed, since the days of Paul Volcker, raises rates to slow down the economy.  Good news… inflation is currently under control.  There is no immediate reason for Fed intervention.

3. The Most Recent Fed Statement:

One overlooked, but important, section of last week’s Fed Statement was the fact that the Fed promised not to sell all these MBSs they now own.  Thank God.  That much volume in the market added to the volume being created as the tax credit expires would be disastrous.  More supply than demand means that prices tumble.  When bond prices tumble, rates go up.  (This is the same logic that explains why the banks haven’t released all their REOs into the market… too much supply, limited demand means lower prices).   The good news is that the “powers that be” understand the dynamics at play.

4. MBSs are Not Created Immediately:

It can take 30-120 days for a loan to close and for it to find itself into a security.  That means we have months of loans that are already closed that have to be absorbed into the market.  What truly is the appetite out there for them?  Prices paid in early April for the current MBSs will give us a powerful indication of the future.

So, what’s my opinion?

I see rates moving to the high 5s almost immediately… a quick, but measured spike.  Psychologically, I think that we can’t let rates get over 6 until there is more confidence in the economy (jobs mostly); otherwise, too much will crumble too soon.  I see rates bumping up against 6 through the summer.  After that, rates will move to 6.5-7% (the more “normal” range) in the fall.

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