financial services

Fed may buy more mortgage bonds

Posted 6/5/12

The Federal Reserve is more likely to buy additional government-backed mortgage securities after the pace of U.S. job creation slowed, underscoring the economy’s fragility, according to Morgan Stanley and JPMorgan Chase & Co., Bloomberg News reported this week.

Analysts at the banks joined researchers at Bank of America Corp., Barclays Plc and Nomura Securities International in saying the odds are greater that Fed will add to its current program of reinvesting in the $5.4 trillion market with proceeds from past buying in reports published June 1. That day, benchmark Treasury yields fell to record lows after data showed the U.S. added 69,000 jobs in May, the fewest in a year and less than the most-pessimistic forecast in a Bloomberg News survey.

With Morgan Stanley’s economists and interest-rate strategists now assigning 80 percent odds to a third round of so-called quantitative easing from the Fed, its mortgage-bond analysts including Vipul Jain and Janaki Rao wrote that QE3 may involve about $200 billion in additional purchases of home-loan debt over nine months, almost doubling the current program.

The Fed is already buying a “fairly significant portion” of agency mortgage-bond issuance and will be focused on “smooth market functioning,” limiting how much it more can buy, the New York-based analysts wrote.

The amount could be about twice as big if the Fed decides to acquire larger amounts of 15-year securities and Ginnie Mae debt, which it’s been buying a smaller share of than 30-year and Fannie Mae and Freddie Mac securities because the notes aren’t “as directly supportive of the policy goals,” they said. The analysts recommended a “modest overweight” on Fannie Mae 3 percent and 3.5 percent notes relative to benchmark debt.

The Fed may choose to make a new round of its so-called Operation Twist involving acquisitions of mortgage securities, rather than Treasuries, instead of embarking on QE3, JPMorgan mortgage-bond analysts led by Matt Jozoff wrote. The size may be as much $100 billion to $200 billion, said the analysts, whose bank’s economists now see 50 percent odds of QE3 in mortgages. The analysts said they remained “overweight” agency mortgage bonds for several reasons.

The difference between yields on a Bloomberg index for Fannie Mae current-coupon bonds and an average of five- and 10- year Treasuries was 0.02 percentage point more than the 2012 average at 1.46 percentage point as of 3 p.m. in New York, down from an average of 1.58 percent last year. That’s a spread metric often used by investors

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