Mortgage rates are a critical input for the housing market

Mortgage rates are the lifeblood of the housing market. The Fed’s plan to help the housing market began when it pushed rates lower to allow people to refinance. The central bank hoped that lowering mortgage rates would also support home prices.

Mortgage Rates Rise despite Lower Bond Yields

Quantitative easing was a key part of that effort, and the Fed is reluctant to sell its MBS (mortgage-backed securities) holdings for fear of raising mortgage rates too much.

Mortgage rates ignore Friday’s bond market sell-off

Mortgage rates have tended to fade big moves in the bond market lately. When rates fall well below 1.9% on the ten-year bond, mortgage rates fall, although only slightly. Similarly, when rates rise to 2.3%, mortgage rates tend to rise only slightly.

Mortgage rates have lagged behind the drop in interest rates we’ve seen over the past few weeks. Last Friday, they reacted to the strong jobs report and increased from 3.8% to 3.9%. The post-FOMC spike appeared to have been overdone, and mortgage rates fell again. Investors interested in making directional bets on interest rates can look at the iShares 20+ Year Treasury Bond ETF (TLT).

Effect on mortgage REITs

Mortgage bankers such as Nationstar Mortgage Holdings (NSM) and Wells Fargo & Company (WFCare looking forward to 2016 at this point. The Mortgage Bankers Association has put out initial estimates for 2016, and it is predicting improvement in the purchase business but a continuing drop in the refinance business as rates rise.

The drop in prepayment speeds would be good news for mortgage REITs such as Annaly Capital Management (NLY) and American Capital Agency (AGNC), which are highly leveraged agency REITs with a lot of prepayment exposure. Non-agency REITs such as Redwood Trust (RWT) tend to swap interest rate risk for credit risk.

Investors interested in trading in the mortgage REIT sector through an ETF can look at the iShares Mortgage Real Estate Capped ETF (REM).

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