Treasury selling of MBS: Round 1 to the Obama Administration

21 Mar

Buy into Weakness, Sell into Strength

There is an old adage, which says “Those with the Gold Rules”. The US Gov’t has all the gold. After buying $1.5T of agency mortgage backed securities to keep mortgage rates low, the Treasury announced the orderly sales of MBS. The idea as listed in their press release is to unwind their position for a profit without upsetting the markets.  Keep in mind the independent Federal Reserve Bank isn’t selling,

What does the Treasury own:

February 2011    
Current Face of the Portfolio at the End of Month

Fannie Mae Freddie Mac  
4.0% 1,376,966,849 6,495,785,739  
4.5% 17,160,393,201 27,946,089,858  
5.0% 22,436,589,516 21,143,129,062  
5.5% 19,103,475,065 9,018,824,625  
6.0% 8,723,088,415 2,161,991,362  
6.5% 47,223,820 0  


Fannie Mae Freddie Mac  
4.0% 0 318,146,273  
4.5% 60,412,369 0  
5.0% 61,850,726 65,124,834  
5.5% 49,831,614 126,373,957  
6.0% 0 0  
6.5% 0 0  
Numbers represent the current face of the portfolio at the end of the month


The US Gov’t purchased (actually over purchased) the current coupon TBA to bring down mortgage rates in a feeble attempt to bring back the US housing market. This tactic didn’t help stop the bleeding though it did slow it down some. As they overbought production (TBA is a futures market and therefore originators can oversell causing trade fails) in the current coupon, the US Gov’t purchased premium coupons to help with the mortgage rates. Again the US Gov’t overbought real production, so then they bought some discount bonds and then stopped.

With all the unrest n the Middle East and nuclear catastrophe in Japan, Agency MBS bonds like Treasuries are rallying due to the flight to quality trade. The US Gov’t thinks they can have their cake (i.e. profits) and eat it too (i.e. political brownie points by lowering debt).  Additionally, they think they can sell $10B/week without dramatically driving up rates. Are they right? Are they crazy? Will Megan ever see her long lost brother who recently had the sex change operation in Sweden?

In the short term, MBS spreads will widen out with increased supply but not sharply.  The US Government isn’t crazy or stupid (though I do wonder about the strategy of telegraphing your moves). The MBS market is short supply partially due to the previous government overbuying and due to decreased availability of prime credit borrowers who haven’t refinanced in the last few years. The planned selling of $10B per month will be in the higher coupons. Selling in the higher coupons will produce the most profits.

The real question is will the US government sell 4.5% and 5% bonds at a loss or modest gain? The Administration will claim a political victory by 1) spending money to help the housing market when they needed it, 2) make a profit for the US taxpayer better than any private company, 3) demonstrate the need for a government presence in the mortgage market and 4) reduce US debt by $10B/month.

All of this is just the prelude to the main event: The soon to be released Dodd-Frank Act qualified residential mortgage and risk retention rules versus every political self-interest group in the mortgage business.






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