Re-Fi Boom's Downside, by Rick Ackerman, 321Gold
I've been writing regularly about deflation for ten years, but new manifestations of it continue to outpace my imagination. There's the eerie rally in Treasurys, for instance -- "eerie" because, as far as I can determine, there are no healthy coordinates for it in the U.S. economy. Granted, a related and seemingly positive development is that mortgage borrowers are able to reduce their monthly payments as rates in general fall. But this is not strengthening the economy; it is merely keeping it afloat -- barely -- to the extent robust consumption levels can be temporarily sustained as U.S. incomes stagnate or fall. But what many observers seem to be overlooking is that consumers' reduced borrowing costs come at the expense, in particular, of investors whose portfolios are loaded with mortgage-backed securities. They have been exchanging these securities for Treasurys by the truckload in recent weeks, since a new wave of mortgage refinancings threatens to devastate mortgage yields.
The run on Treasurys is an unintended consequence of the Fed's last-ditch effort to keep the housing boom alive. One could argue that lower rates all around have the potential to make everyone a winner, but this ignores a few disquieting facts. For one, there is the huge hit to savers and their institutional proxies who are weighted in mortgage-backed securities. For two, the unnaturally heavy skew of money toward housing is creating an asset bubble vastly larger in size, even, than the S&P bubble; and, three, all bets will lose if the dollar falls. On that last point we should wonder whether, merely by becoming unthinkable, so potentially catastrophic an event may have become inevitable.
FYI, here's the Reuters dispatch concerning recent dumping of mortgage-backed securities: "U.S. mortgage-backed security prices fell early Thursday, underperforming Treasuries, with lenders unloading positions in anticipation of a huge wave of borrowers locking in their home loans, market sources said. An early Thursday spike in longer-dated Treasury yields -- rate benchmarks for fixed-rate U.S. mortgages -- spurred lenders to sell $2 billion in mortgage positions after selling about that amount late Wednesday, analysts said. But a rise in Treasury yields did not quell fears of a huge loss of interest income expected by investors whose mortgage holdings could be prepaid quickly in the coming months due to heavy refinancing, market sources said.
" 'This is a temporary pullback,' said Michael Cheah, who invests about $1.5 billion in bonds for SunAmerica Mutual Funds in New York. 'There'll be a serious loss of income in mortgages.' To offset the negative effect of rapid prepayments, fund managers like Cheah have snapped up less prepayment sensitive fixed-income instruments like Treasuries, agency bonds and interest rate swaps. For some of his accounts, the split between Treasuries and mortgages stands at 60 percent and 40 percent, respectively, a reversal of the split a month earlier, Cheah said. On Wednesday, the mortgage-backed securities market moved into uncharted waters where virtually all fixed-rate mortgage loans that support the $4.3 trillion market are eligible for refinancing. This first-time phenomenon was a result of a sharp decline in Treasury yields as players sought safe haven from an uncertain U.S. economic recovery and a rocky stock market. 'The market has been panicking to buy bonds' that are less prepayment sensitive,' Cheah said." |
