Anxiety surrounds Tuesday's Federal Open Market Committee (FOMC) meeting as the central bank's year-long mortgage-backed securities (MBS) purchase program nears its scheduled March 31 close, opening the door for mortgage rate increases and surprising market fluctuations.
The Fed spent billions of dollars on MBS guaranteed by Fannie Mae (NYSE: FNM), Freddie Mac (NYSE: FRE) and Ginnie Mae weekly for the past year, topping out its portfolio at $1.25 trillion.
As the program ends, investors and analysts are speculating that mortgage rates could rise - and rise fast.
Mortgage Securities
Article Index
Fed Plan to End Mortgage-Backed Securities Purchase Program Brings Market Anxiety
Mortgage Investments Offer Both Opportunity and Risk: Making Sense of Conflicting Reports
Recently, I finished reading an engaging book that explained in detail how John Paulson generated more than $20 billion betting on a crash in the housing markets. Many wise investors could see the writing on the wall months ahead of the panic period, but since you can't exactly short an individual house, it was difficult to figure out the best way to profit from the coming crash.
After months of studying and more than one false start, Paulson eventually determined that the best strategy was to buy protection on mortgage securities. I'll spare you the tedious details, but the concept of mortgage securities is very interesting (and potentially very lucrative). Essentially, many of the loan originators - the companies actually lending money for home purchases - didn't want to keep these loans on their books. Instead, they bundled the loans together in a pool and sold these "securitized" loans to investors.
Over time, the process got very complicated, with the pools being sliced up into different categories - some with more risk and potentially greater returns, and some with much lower risk and consequently lower profits. Leading up to 2007, there was so much investor demand for these securities that the loan originators couldn't keep up with all the buyers. Eventually, new derivative markets emerged, allowing more investors to bet on these pools of mortgages.
After months of studying and more than one false start, Paulson eventually determined that the best strategy was to buy protection on mortgage securities. I'll spare you the tedious details, but the concept of mortgage securities is very interesting (and potentially very lucrative). Essentially, many of the loan originators - the companies actually lending money for home purchases - didn't want to keep these loans on their books. Instead, they bundled the loans together in a pool and sold these "securitized" loans to investors.
Over time, the process got very complicated, with the pools being sliced up into different categories - some with more risk and potentially greater returns, and some with much lower risk and consequently lower profits. Leading up to 2007, there was so much investor demand for these securities that the loan originators couldn't keep up with all the buyers. Eventually, new derivative markets emerged, allowing more investors to bet on these pools of mortgages.