Saturday, February 20, 2010

Interest Rates set to Rise in April and Beyond?

This message was recently sent to me from my District Director and I thought it pertinent enough to blog about...

The Fed has told us repeatedly that their massive purchasing program of Mortgage Backed Securities is just about over - and this translates to home loan rates rising in the near future.

As you can see in the chart below, the amounts of Mortgage Backed Securities the Fed is purchasing are slowly dwindling, as the program is set to wrap up by March 31st, and are clearly trying to ration out the remaining portion. Last week, the Fed purchased $11 Billion in Mortgage Backed Securities, which leaves them with $66 Billion to spend out of their original $1.25 Trillion allotment. So about 95% of the total has already been spent and has purchased about 3 out of every 4 home loans during the past year. When such a large buyer leaves the market, it is very likely that prices will worsen.

This is very important because as the Fed has less money to last through the remaining months of the program, their ability to keep home loan rates low via their purchasing power will wane. Those who can take advantage of currently low home loan rates do not wait, as the clock on these historically low rates is ticking.

The Fed is also planning to switch their benchmark from the commonly watched and monitored Fed Funds Rate, to a new benchmark based on interest they pay on excess bank reserves they hold out of the monetary system.

Banks have been ignoring the current benchmarks and charging inter-bank rates as they see fit. The Fed wants to fix this by using the amount of interest they pay on excess reserves as the new benchmark, since the Fed has total control of this rate, which should be right at or just under the Fed Funds Rate.

The one major take-away from this discussion is that the Fed is getting their ducks in a row as they prepare to push interest rates higher. And when they do increase rates, the Fed does not want any obstacles that may undermine their plan.

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