Mortgage News

AN INSIDER'S VIEW FROM THE CAPITAL MARKETS COOPERATIVE TRADING DESK:

"Is the worst of the credit crisis behind us? Was Bear Stearns' capitulation the last straw? It sure feels like it. The Fed has shown its willingness to prevent disaster. Voices from Merrill Lynch to S&P say that the worst losses have been taken. Credit spreads on everything from corporates to munis to mortgages are tightening. Banks are raising capital and the stock market is rallying. And if the mortgage-to-Treasury spread is any measure of the industry's health, we're on the way back in a big way.



Since March 6th, fixed mortgage rates have fallen a full 1.00% relative to Treasury yields. The spread between mortgage and Treasury yields, while still high at 2.55%, no longer reflects panic. In fact, we can almost say that current spreads are logical. They simply reflect high prepayment volatility, as we might expect with the Fed still slated to cut short-term rates by 0.50% over the next three months. Most traders think that spreads will not widen back to panic levels, but they will not collapse to 2004-2007 levels any time soon either.


So if there is at least a small chance that things are getting back to normal, where do we go from here? The National Bureau of Economic Research just published a paper that compares the current debt crisis with a long list of crises that have occurred around the world since World War II. The paper asks the age old question: Is this time different? As it turns out, this time is not so different after all. Similar banking crises have chopped 2% to 5% off of GDP, have produced mild inflation, have been resolved more quickly if the government gets involved, and have worked themselves out in two to four years. Sound familiar? The worst crises were all exacerbated by rigid government and banking policies. Japan had the scariest experience - the Japanese began their "lost decade" in 1992.


The Fed forecasts that Treasury yields will range between 3.50% and 5.00% over the next three years. If the Fed is correct, annual GDP growth will range from a low of 0% this year to a possible high of 3.2% next year. Inflation may surge to 2.8% this year, but is expected to drift lower over the next couple of years, with a low-end prediction of 1.5% in 2010. Fixed mortgage rates, therefore, should hover between 5.50% and 6.50% for the foreseeable future. That wouldn't be so bad.


Amidst this talk of recovery, the yield curve has flattened, taking some of the enthusiasm out of the banking sector. The difference between two-year and ten-year Treasury yields peaked above 2.00% a few weeks ago. Last week it settled down at 1.60%." (CMC traders price, hedge, and sell $billions of mortgages for their clients, and offer a front-line perspective on the markets.


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