Where are rates headed? This seems to be the question of the year; and, as usual, the direction is not easy to discern.
A related question is this: What is having the most influence on mortgage rates today? I call it the three-headed monster, which is, I believe, an apt descriptor. The three heads are, in no particular order, the Fed; the economy, of course; and Europe. Each head of this three-headed monster is having a notable effect on the Mortgage Backed Securities (MBS) market; and, as we know, MBS yields are how we get our mortgage rates. Let’s take a look at how each of the monster’s heads is having its effect on rates.
The Fed. Over the past three years, the Fed has reached into its bag of numerous tricks to stimulate both the economy and housing from an interest rate point of view. First out of the gate was Quantitative Easing 1 (QE1), which entailed the buying of MBS totaling more than $1.3 trillion. This first trick out of the bag immediately drove mortgage rates to historic lows in 2009 and 2010. QE2, which was announced in November 2010, entailed the buying of an additional $600 billion in U. S. Treasury Securities. Then, in September 2011, there was the Twist—the FOMC action known as Operation Twist—after the song from the sixties. The Fed adjusted its buying of bonds, purchasing only bonds with maturities of 6 to 30 years and selling bonds with maturities of less than 3 years. This adjustment had the effect of driving down yields on long-term securities and bled over into mortgage rates, taking them to even lower historic levels. Now the Fed is talking about QE3 and what that might look like. Signs point to buying more MBS to further drive rates down.
The economy. Inflation, hyperinflation, deflation, stagflation, CPI, ISM, consumer confidence, jobs, lack of jobs, unemployment rate, non-farm payrolls, jobless claims, and on and on. The news comes at us on a daily basis, sometimes like a trickle, sometimes like water gushing from a fire hose. This information has become a weekly pivot point for what rates may or may not do. Good news or inflationary news drives rates up; bad news drives rates down. Until we start to see some really good jobs data or inflationary news, I think that any economic news will only have a short term affect on the market.
Europe. This head of the monster may be the real market mover as it pertains to mortgage rates, the Fed, and even our economy. Most think that the United States is highly leveraged and will have trouble paying its debts in the future. Well, for Europe that future is now. The countries that seem to be having the most debt problems and to be most at risk are the PIIGS—Portugal, Italy, Ireland, Greece, and Spain, Greece being the one that is getting the most attention at the present time. Greece is now in need of a large bailout, and news of the European Union (EU) austerity plan to take both a 50 percent haircut for all investors in Greek debt and to implement an austerity plan moving forward has been met with anger by the Greek public. In fact, as of the writing of this article, the Greeks have decided to have a referendum vote on the approval of the bailout in the next few months. The mere thought of putting this decision in the hands of the Greek public has created another rush to safer securities like MBS and, once again, driven down rates. The real worry here is Italy, which has the same problems as Greece but an economy that is ten times bigger. The EU does not have deep enough pockets to bail out both of them. Keep an eye on Greece, but keep your focus on Italy, which could very well be the next market mover.
Moving forward, the news coming out of Europe—good or bad—will, in my opinion, have the greatest effect on mortgage rates. In fact, the market has lately swung wildly on the slimmest of plans and programs being offered to prevent massive defaults within the EU.
This three-headed monster—the Fed, the economy, and Europe—is not done yet. Even if we cut off one or two of its heads, we are still going to be affected by the third one.
John McClellan Branch Manager Supreme Lending NMLS #207768
