The Bridgewaters, Massachusetts

Prices of Mortgage Backed Securities (MBSs) are lower this morning as the Fed's efforts to bail out Bank of America stimulated demand for riskier assets. Stocks opened higher while Treasuries and MBSs sold off. The Consumer Price Index (CPI) fell in December fueled (pun intended) by record declines for energy, gasoline and oil. University of Michigan's Consumer Sentiment index rose mainly due to retreating gas prices. Meanwhile, Industrial Production fell as factories reduced output and spending as exports slowed. The Feds purchased $23 billion in MBS last week, shifting focus to lower coupons, 15 yr notes and GNMAs.

There are a few things present that should prevent a big sell off of MBS which in turn would lead to higher mortgage rates. First, at the current price of MBSs, we should be seeing interest rates of 4.50% with no points. So, even if MBSs stays at their current levels, better pricing should eventually come from the lenders.

Next, the Federal Reserve began purchasing up to $500 billion in MBSs. Since the beginning of the year, the Feds have bought about $33 billion worth of MBS, so they still have another $467 billion available to spend. If MBSs start to sell off, the Feds can always step in as a buyer to keep the price of MBSs up and yeilds down. Remember, as the price of MBS moves higher, yields (and mortgage rates) go down.

Finally, most economic reports that came out the last couple of week have been favorable to MBSs. Inflation is low, unemployment is high. and most of us will agree that the economy is not doing very well. We are in a recession, and so long as there is no inflation or fear of inflation, then bad economic news generally leads to low mortgage rates.