PIMCO has completed an excellent Q&A with Scott Simon, the head of their mortgage and asset-backed securities team.
Mr. Simon addresses the housing outlook now that the federal reserves historic mortgage-backed security (MBS) buying program (which had been used to provide liquidity and support market prices during the crisis) has ended.
Overall, he presents a mixed outlook.
Firstly, he thinks the MBS market can hold up on its own now and doesn’t need the Fed’s buying support, and in fact hasn’t needed the Fed’s support for many months now:
Simon: We are unlikely to see a significant market disruption in the Agency market stemming from the Fed’s retreat. First, the retreat had been well advertised for months before the event. Investors knew exactly when the program was going to end and how much the Fed was buying. So it’s not as if anybody woke up and was surprised by the fact that the Fed had stopped buying.
Second, private buyers are in a much better position today than they had been before the Fed started buying. The private balance sheet was seriously impaired by the financial crisis at the time the Fed stepped in with its public balance sheet. But by October 2009 or so, the private balance sheet had improved. The Fed probably could have stopped buying at that point with about $850 billion in completed purchases, but it felt compelled to reach the previously announced total of $1.25 trillion, and so the next $400 billion in MBS drove prices higher.
Yet secondly, he thinks MBS prices are looking pricey, driven up by fed buying that went on for too long, as mentioned in the excerpt above.
Q: What are your views on MBS prices today?
Simon: Agency MBS look expensive vs. 10-year Treasuries but cheaper compared to two-year swaps. We never look at mortgage bonds in isolation, but compare prices against an array of other instruments, so I avoid being too specific about labelling them as cheap or expensive. However, I’ll go so far as to say Agency MBS peaked in richness in late December or early January and finished March still priced on the richer side of fair.
Finally, and more broadly, he believes that the low-end housing market may have already bottomed, while the high-end market will bottom later this year. Thing is, he warns that “If one labels recovery as prices rising dramatically, we do not foresee that anytime soon.”
So basically, expect a rather comatose market, but one that isn’t dead and can at least remain stable with Fed support. Read the full Q&A here.
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