The Fed won’t be selling MBS any time soon. Now what?

Mortgage rates have jumped in response to inflation and related monetary policy actions, but recent comments from Federal Reserve Chairman Jerome Powell have allayed at least one worry for those who finance housing — for now.

By announcing that the Fed will not sell mortgage-backed securities from its portfolio soonPowell provided short-term relief to lenders worried about increased rate volatility in their market.

“The silver lining from yesterday’s announcement is that the Fed hasn’t announced any increases in selling expectations,” said David Battany, executive vice president of capital markets at Guild Mortgage.

The Fed could use sales of mortgage-backed securities from its $2.7 trillion portfolio as a tool to fight inflation. This has been a concern for housing finance companies, as they consider MBS to be more closely tied to home loan rates than other levers that federal officials might use for this purpose. The Fed has already stopped building its portfolio and allowed $35 billion worth of MBS to go into liquidation each monthonly buying if this amount is exceeded.

If the Fed sells MBS, reversing the pandemic stimulus that has contributed to record mortgage rates over the past two years, funding costs could rise further.

But now – even though Powell said he still thinks it’s something policymakers will eventually look to – some lenders think it’s increasingly likely that it won’t happen, particularly if recession some economists predict it will happen.

“I don’t think they will consider selling MBS at all,” said Shmuel Shayowitz, president and chief loan officer at Approved Funding. “Granted, if inflation spikes after their last two rate hikes, that would be [an arrow in their] quiver they use to calm the markets, but I don’t see them pulling that lever. I believe the inflation numbers may start to stabilize.”

Shayowitz thinks monetary policymakers will be cautious about actions that could unduly weaken the housing market, but some other experts note that Powell could be somewhat aggressive on this front given that the Fed Chairman has said that he wanted to reduce “housing inflation”.

“They want to see a house price correction, so they’re probably clinging to the outright sell tool of the [securitized] mortgages as a safety net if they can’t get where they need to with interest rate hikes,” said Sadie Gurley, who currently works for a New York-based fund investing in residential mortgages and was previously senior vice president at Maxwell Capital.

The Fed could also decide to start selling MBS if the runoff proves insufficient to meet the targeted cut of $35 billion a month, Gurley said. With reduced opportunities for refinancing as rates rise, this is increasingly possible.

“If prepayments slow to the point where [MBS are] not fast enough, that’s when they’re going to go to the second level, which is to sell the bonds,” she said.

But even if the Fed reaches the point where it sells mortgage bonds, it will be limited by the fact that many of the MBS that will be sold are older and have less bearing on current rates than newer ones.

“The sale of bonds would be [largely] seasoned, non-TBA loans, and [lower] coupons. Investors who want these may not always be the same investors who are currently buying [to be announced MBS]…that support the mortgage lenders daily rate sheet,” Battany said. “So I think the clear conclusion is yes, it could drive mortgage rates up, but not to the full extent that buying MBS has driven them down.

The performance of these coupons initially improved after Powell’s comments made it clear that the additional supply would not be immediately delivered to the market by the Fed, as some had anticipated, but a Thursday bond sell-off inflation uncertainties reversed the situation.

“The market was expecting the Fed to start selling stocks in the not too distant future, so we saw outperformance from lower coupons early on, but there was a lot of selling pressure today” , said Justin Hoogendoorn, head of fixed income. securities and analysis at HilltopSecurities. “It’s neat but all the coupons are selling out.”

Hoogendoorn warned that while the composition of the Fed’s MBS portfolio alleviates some of the upward pressure on mortgage rates that could come from selling, it will not eliminate it.

“If a lot of 2s and 2.5s came to market, it would still have an impact, but it would be limited,” he said.

Additionally, Treasuries that may eventually be sold from the Fed’s portfolio could put upward pressure on rates.

“If the Fed sells MBS, it’s very possible at the same time, they can also sell their Treasuries, and if the Fed starts selling 10-year Treasuries, it’s just a market. It doesn’t matter if a bond is seasoned or not.So definitely as they are selling 10 year treasuries it will drive up the [rate-indicative] yields,” Battany said.

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