Rates are heading lower. It’s true, the 10-year treasury yield, which is traditionally closely correlated with mortgage rates, is down nearly 30% over the past 6 months. If you’ve been anywhere near a newspaper, TV or Twitter feed in the last couple weeks you have heard about the collapse of interest rates.
As a global slowdown comes into view, investors across the globe are reaching for safety and that means they are buying US Treasury BONDS. Across the Atlantic, European bond yields are deep in negative territory, making US treasuries even more attractive to investors who want positive cash flow. As demand for government bonds soars, one would assume that this rising tide would lift all bond boats, including mortgages. Unfortunately, this has not completely been the case recently.
Traditionally, mortgage and treasury rates move together. However, when interest rates fall, like they have in 2019, investor holdings of mortgages and mortgage-backed securities (MBS) tend to evaporate into thin air as consumers race to refinance their home loans. This puts considerable strain on portfolio managers who own mortgages and mortgage bonds and see their values plummet.
How do portfolio managers address this issue? They worsen the prices they are willing to pay for mortgage-based investments, which makes mortgage rates lag behind treasury yields. Notice in the chart how the relationship between mortgage and treasury rates has decoupled this year. In the fixed-income world, this is known as the widening of the mortgage-treasury basis spread.
Now for the good news. While mortgage rates have struggled to keep up with treasury yields during this massive rally, mortgage rates are extremely low, nonetheless. Homeowners across the country are also finding great value in refinancing as well.
Eventually, mortgage rates will have a stronger correlation with Treasury yields and treasury-mortgage spreads will return to their historical averages. This usually occurs when interest rates stabilize or begin to increase. I would not recommend over-analyzing the difference between mortgage and treasury rates in the current environment. There is likely to be a larger than normal spread between the two until market volatility subsides and investors have a clearer view on the direction of the global economy, two things that are not likely to happen anytime soon. In the meantime, I would focus on the fact that mortgage rates are near historical lows and that highly favorable homebuying and refinance opportunities currently exist for a large percentage of consumers.
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Mark Gorman NMLS ID:282682; MO - 1704-MLO (314) 439-8386