I figured I would give a quick, but fairly detailed, understanding on one piece of the MBS market and charts. Cutting to the chase; nobody knows what is going to happen with rates. I think rates are going to go up and go up quickly, but the 10 Yr Treasury will be near zero and nobody is going to be able to explain to the consumer why.
The 10 Yr Treasury keeps breaking through ceilings from which is usually bounces back, but with euphoria in the stock market (false hope due to good things happening until that normalizes) the market stays up, which is not a bad thing. When stocks are up that means people are investing in the country.
Stocks are equity or ownership investments. When you buy stock you are part owner of a company. So people are optimistic about the future so they want to be in ownership, which means stock
On the other hand, bonds are part of the fixed rate securities where people flock when they are concerned about the economy. With bonds you are a debt holder of a company. You give them money - they give you a promise to pay a fixed amount on what you gave.
Then…. you have Jerome Powell coming in and saying The Fed is going to keep rates near 0%, which makes it next to impossible to explain to your clients why rates are going up, but Jerome says they are staying the same.
Put bluntly; The Fed does not dictate interest rates. The market dictates rates, and it’s complicated.
In a nutshell; you will hear that the bond market is “oversold”. What does that mean? That means you have more sellers than you have buyers. When you have a lot of inventory and no few buyers, you sell for a lot cheaper. Think “clearance sale”.
Right now we have a ton of inventory with not buyers. Why? Some invested in the stock market, (you have a stimulus package coming out which comes in the form of treasury sales: the 30 yr bond is paying 2.29% which is crazy high, and then you have industry news coming out that impacts everything like unemployment, new home sales, inventory, GDP, etc). Which way that moves overall rates is anyone’s guess when you have so many moving parts, but my guess is up. Banks aren’t stupid and they are going to want to hold on to as much cash in reserve as they can. Banks need rainy-day funds too, and they can see the clouds on the horizon as well as anyone.
This is what the MBS chart for 2% coupon looks like right now.
The red and green symbols represent each trading day. They’re called “candlesticks”. The green candlestick means that the current price is better than the closing price the previous day. Red means we lost ground from the previous close. It is important to understand that MBSs are pegged each day from the previous days close and NOT from the opening price. As I type we are down about 67 bps, for the day. So why is it green?
On the left chart the close is 101.031. On the right chart this morning it opened at 100.016. This means overnight the yield lost 101.15 bps. So if you take 101.031 (yesterdays close) minus 100.359 (current yield) that equals a negative 67 bps since yesterdays close. But we are actually up from the opening yield. The open on the right chart is 100.016 and current is 100.359 so since opening we are actually green to the tune of 34 bps hence green. So candlestick is open to current and tracking is previous day close to current.
So how much have we lost? If you look to the far right you will see 104.00. Picture that as a rate sheet. On Jan 4th the 2% coupon was paying 104.11 in yield. As of today the 2% coupon is paying 100.359. That means we have lost 375 bps since Jan 4th. Show your clients this and they might understand a little more.
The coupon means the investors rate of return. “Coupon” just means how much the investor will receive back if they buy an MBS security. That is not the note rate. The Note rate includes guarantee fees as well as servicing fees. For example. Let’s say your rate is 3.25%. Each time a customer pays a payment to the servicer the interest that is paid the 3.25% interest part of the payment is broken out. The servicer receives .25% of that interest to service the loan. Then the agencies get paid .25% of that loan to guarantee the loan stating if the borrower does not pay then the agencies will make sure they do get paid. That also falls on the servicer but again basic stuff. So the net the investor receives is only 2.75%. So this would be a coupon of 2.75%.
The lines that you see labeled 0%, 23.6%, 38.2% are what we call lines of resistance. As the mbs goes down they will typically hit those floors (decreasing) or ceilings (Increasing) and then bounce back up. Basicly, the resistance lines are when trading would get to a point where the market would react and stabilize between those two lines and life would be normal. So market analyzers will say we are about to hit a floor of resistance and we hope it will bounce up but once it breaks that floor then now we are in a new trading window. For example we are at the bottom floor line of 100.133 so hoping it will bounce back up in the new trading window. So the 100.133 is the floor of resistance and the 100.688 is the ceiling of resistance. So if we make some ground we will likely hit the ceiling and bounce down. But in this current market nobody knows what will happen because it keeps breaking right on through all of the resistance lines.
Hopefully this can at least help you understand what you are looking at even if you cannot explain why it is doing what it is doing.