The Mortgage Reports Blog

Why I'm Carefully Watching U.S. Treasury Auctions This Week

This week, there's virtually no news to hit the wire, save for a consumer confidence report. 

I've never really put much faith in "confidence" reports, though, because American shoppers tend to say one thing, and then do something else completely different.

So, as Consumer Confidence falls throughout October and November, it doesn't mean that Americans will spend less on holiday gifts this year; it just means they'll feel worse about actually doing it. 

Viva la Consommateur Americain.

So, with no real news to watch this week, I'll be keeping an eye on things like the U.S. treasury's auctioning of 3-month and 6-month bills on Monday and Thursday, plus Wednesday's 10-year note auction and Thursday's 30-year bond auction.

Specifically, I'll be watching for foreign participation in these auctions because foreign demand for U.S. securities will reveal how other nations view the U.S. economy and the future path of the dollar.  If demand at the treasury auctions is strong, it means that the global view of the U.S. dollar is strong, too.

Strong participation bodes well for mortgage rates because mortgage rates are based on the price of mortgage bonds and mortgage bonds are priced in U.S. dollars, too.  A strong dollar will lift everything up. 

(Image courtesy: Wikipedia)

See For Yourself Just How Much Impact Foreign Nations Have On U.S. Mortgage Rates

I rely on charts to tell stories from time to time; that much you know about me by now.  And, I'd be lying if I said using two charts to tell a story doesn't get me uber-excited.

Sometimes, two things are just made for each other:

• Peanut butter and jelly (proof)
• Jam and Joey's girl from the Xerox place (proof)
• Foreign Net Treasury Coupon Purchases and the Path of The 30-Year Fixed Mortgage Rate (see above chart)

It's almost poetic.

We know that mortgage rates are based on the price of mortgage bonds.  And we know that foreign nations buy a lot of U.S. securities (including mortgage bonds).  Well, by mashing up two charts, we can actually see how bond and buy-side economics work.

The red bars represent foreign demand for U.S. government-issued bonds.  The fuzzy blue line represents the average 30-year fixed mortgage rate. 

Author's note: I am assuming that foreign demand of all US securities follows the same basic trendline as the subset that is foreign demand for US treasuries.

According to the chart, when the red bars get bigger, demand is increasing for U.S. treasuries and rates are expected to fall.  The overlay verifies that.  It also verifies the opposite -- as the red bars get smaller, mortgage rates tend to increase.

Now, foreigners are not the only purchasers of mortgage bonds, of course, but I found this homemade mashup to be exceptional because it shows a clear association between the two.

Source
Bond Market Update
Briefing.com
October 16, 2007

Graph the trend
Bankrate.com
October 16, 2007

Why Money Left Stocks And Got Picky About Bonds

This graphic from the Wall Street Journal shows last week's losses across a few of the world's major stock markets.

Money leaving stocks has to go somewhere and investors have two choices:

• Hold the money as cash
• Invest the money in bonds

Usually, investors don't want to be on the sidelines.  So, they will often take the proceeds of a stock sale and use it to purchase bonds.

Remember that mortgage rates are the by-product of prices and yields in the mortgage-backed securities market.  When demand for bonds increase, it drives up the price and drives down the yields.

This is why rapid stock sell-offs often lead to lower mortgage rates.

This past week was a little bit different, though. 

Despite the worldwide losses, mortgage rates decreased only about 0.04% on average, according to Freddie Mac's weekly survey.

The benchmark 10-year treasury note, however, dropped 0.165%.  This is the biggest gain in over five months for the treasury market.

Investors chose to park their money with the U.S. government last week and that reminds us that one very important fact about the oft-confused bond markets:

U.S. treasuries and MBS tend to move in the same direction, but treasuries cannot be used as a predictor of mortgage rates, nor can they be used to price mortgage loans.  Only the mortgage-backed securities market can be used to price mortgages.

One major reason why treasuries excelled while MBS markets laid flat is because investors are concerned that sub-prime lending's carnage will spill over into other mortgage markets.  That renders mortgage-backed bonds much more risky than in weeks and months prior and, in a period of volatility and uncertainty, the markets turned to Washington D.C. for safety.

Source
Out of Stocks, And Into...?
E.S. Browning
Wall Street Journal Online, March 5, 2007
http://online.wsj.com/article/SB117304961563826411.html?mod=home_whats_news_us