Morning Report: Why mortgage rates are going nowhere for a while

Vital Statistics:

	Last	Change
S&P futures	3599	-22.6
Oil (WTI)	40.73	0.41
10 year government bond yield		0.88%
30 year fixed rate mortgage		2.84%

Stocks are lower this morning as COVID cases build. Bonds and MBS are up.

Retail Sales rose 0.3% in October, which was lower than expectations. The control group, which strips out autos, gas, and building products rose 0.2%. The retail sales print gave the bond market a boost, sending yields lower.

Industrial production in October reversed September’s big declines, rising 1.1%. Manufacturing production rose 1%, and capacity utilization rose from 71.5% to 72.8%. All numbers were better than Street expectations.

The share of loans in forbearance fell to 5.47% last week, a decline of 20 basis points. “Declines in the share of loans in forbearance continued this week, with a significant increase in the rate of forbearance exits – particularly for portfolio and PLS loans,” said Mike Fratantoni, MBA Senior Vice President and Chief Economist. “More than 76 percent of borrowers in forbearance are now in an extension, as we are well past the six-month point for most borrowers’ forbearance plans.”

Interesting article in Bloomberg about the implications of the Fed’s support for the mortgage market. The article gets a little technical, however the main point is that the Fed is using its purchases of mortgage backed securities in order to support the economy. House prices are rising as rates fall, which has created a “house of cards” scenario. Essentially the argument is that the Fed has painted itself into a corner and has no choice but to keep mortgage rates down lest housing prices fall and knock out one of the remaining supports for the US economy. The piece is really from the perspective of an MBS investor, and it frets about what is happening to higher-coupon mortgage backed securities, because prepay speeds are rising so fast. The article suggests that since the Fed wants to create inflation, it might shift its Treasury purchases from shorter-dated bonds to longer dated ones, in order to keep long term rates low.

Here is what this means. When mortgage backed securities investors start talking about “prepay speeds,” mortgage bankers should smile, since a synonym for “high prepay speeds” is “refinance boom.” While I don’t share the author’s fear of a housing bubble, I do think he is correct that the last thing the Fed wants to see is a decline in house prices, at least as long as the economy is in a weakened state. This means that the Fed will continue to support MBS prices, and by purchasing lower coupon notes, aka the 1.5% bonds, it is taking affirmative steps to push mortgage rates even lower.

This is truly a nirvana situation for the mortgage banking industry. This means that as the Fed pushes mortgage rates even lower, more profitable refi opportunities open up. Remember that Black Knight believes that 75% of the $10 trillion mortgage market can save 75 basis points in rate by refinancing. The MBA thinks there will be under $1 trillion in refis next year and that mortgage rates will rise in the second half of 2021. If this article is correct, we won’t see an increase in mortgage rates for years.

Stock investors, take note. PennyMac Financial trades at 3 times earnings. Rocket trades at under 6 times 2020 expected earnings per share.