Fed Clarifies MBS Purchase Policy

As the pressure for higher mortgage rates has increased in recent weeks, investors have speculated that the Fed would step in to "defend" certain interest rate levels, but that hasn't happened. This week, Fed officials explained that their mortgage-backed securities (MBS) purchases are designed to support the mortgage market and not to set rates. The Fed's MBS purchases of $25.5 billion this week were similar to levels seen in recent weeks. Disappointed that the Fed hasn't increased its quantity of asset purchases, investors sold MBS this week, and mortgage rates moved higher.

A number of factors have been developing which typically push interest rates higher. The coming supply of debt needed to pay for government programs will compete for investor funds. Despite strong demand for this week's large Treasury auctions, investors are concerned that higher rates will be required in the future. In addition, an improved economic outlook has made investors more willing to move funds to riskier assets and away from safer assets such as bonds. It also means that higher inflation may be a concern sooner than previously expected.

The difference between short-term and long-term rates reached record spreads during the week. With the Fed-controlled fed funds rate close to zero, short-term rates remained low. Long-term rates, which are market-controlled and influenced by investor expectations, rose significantly. A wide yield curve spread is often found during periods when the economy is strengthening.

Also Notable:

April Existing Home Sales increased 3% from March
May Consumer Confidence rose to the highest level in eight months
Continuing Jobless Claims climbed to a new record high
Oil prices rose to $66 per barrel, the highest level of the year

Week Ahead

Next week, the important Employment report will come out on Friday. As usual, this data on the number of jobs, the Unemployment Rate, and wage inflation will be the most highly anticipated economic data of the month. Early estimates are for a loss of about 550K jobs in May. Before the Employment Data, the ISM index, Personal Income, and Construction Spending will come out on Monday. Pending Home Sales, a leading indicator for the housing market, will be released on Tuesday. ISM Services will be released on Wednesday, and Productivity is scheduled for Thursday. Fed Chief Bernanke will be testifying on Wednesday.

(Content is the courtesy of MBSQuoteline.)

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