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- Mortgage-backed securities are undervalued due to low rates and the actions of the Federal Reserve.
- The link between inflation, interest rates, and bond prices has been broken, with implications for investment decisions.
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Undervalued Mortgage-Backed Securities and the Impact of the Federal Reserve
Mortgage-backed securities are currently undervalued due to their low rates and the actions of the Federal Reserve. The low rates were driven by the Fed's desire to help people buy homes, although it resulted in an incorrect market price. The Federal Reserve has contributed to the historic spike in mortgage rates over the past six months. Mortgage-backed securities have no credit risk as they are guaranteed by Fannie Mae, but they do carry interest rate risk. Investors are more concerned about prepayment risk than extension risk, as early loan repayment affects bond prices. The Federal Reserve, however, is not worried about losses, as they can print money and carry their balance sheet. There is a plan to roll off $35 billion of mortgage-backed securities each month, but it is a maximum limit, not a target. The Federal Reserve may adjust their actions depending on market conditions.
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