It was half the maximum pace. But rising home sales and, lo-and-behold, rising mortgage refis are about to change that.
ByWolf RichterforWOLF STREET.
In its Quantitative Tightening plan laid out last spring, the Fed fixed caps that limit how much of its Treasury securities and mortgage-backed securities (MBS) are allowed to roll off the balance sheet every month: $60 billion a month for Treasury securities and $35 billion a month for MBS. As of the latest weekly balance sheet, total assets have dropped by $532 billion from the peak. The Treasury roll-off has been near the cap, but the MBS roll-off has been far lower.
The Fed phased out purchases of MBS in mid-September. From that point on through the end of November, the four-week average roll-offs of MBS was around $20 billion. In December and January, the four-week average dropped to $17 billion, running at around half the maximum pace.
Since the beginning of QT in June, the roll-off of MBS amounts to just $103 billion. But if the roll-off had occurred near the cap, the roll-off of MBS should amount to about $260 billion by now. This chart shows the actual balance of MBS (red) and my estimate of the balance if the roll-off had proceeded near the cap, including the phase-in over the summer with a nod to the lags with which MBS showed up on the balance sheet.
Why the MBS roll-off will speed up.
There are now some dynamics in the mortgage market that will speed up the MBS roll-off in the spring and summer. It might not be enough to get the roll-off to the cap – we’ll have to see – but it’s going to get it a lot closer.
MBS come off the balance sheet primarily via pass-through principal payments that all MBS holders receive when regular mortgage payments are made and when the underlying mortgages are paid off, such as when the home is sold or when the mortgage is refinanced with a new mortgage.
People are still making their regular mortgage payments just fine. But mortgage payoffs have collapsed as the volume of refis has collapsed by around 80% from a year ago, and as home sales have plunged by around 34% from a year ago. And the torrent of pass-through principal payments that the Fed received a year ago and that far exceeded $35 billion a month has turned into a trickle.
Mortgage payoffs from home sales.
The worst period was over the winter. Now the spring selling season starts, when sales volume picks up every year from the winter doldrums and the holiday slowdown of the housing market. Even during Housing Bust 1, sales volume picked up in the spring. The point when a mortgage gets paid off occurs at closing, so it aligns roughly with reported closed sales.
The low point in closed sales is in January or February, based on deals made weeks earlier, so mostly in December and early January, during the dead-point. In March, closed sales pick up and rise through the spring selling season and peak in the summer.
Last year, between the January/February low and the August peak, monthly sales volume of existing homes (not seasonally adjusted, reported by the National Association of Realtors) rose by 34%.
Each time a mortgaged home is sold, the mortgage is paid off. If the mortgage was securitized, the principal portion is eventually passed through to the MBS holders. This stream of pass-through principal payments to the Fed will pick up substantially through the summer, compared to where it was over the last few months, simply by that fact that home sales volume will increase seasonally.
Mortgage payoffs from refis.
This is hard to believe, but Americans are at it again: Refis have started to tick up this year from the collapsed levels last year, mostly cash-out refis. People are actually refinancing a lower-rate mortgage with a higher-rate mortgage in order to cash out some of their home equity. Maybe they expect mortgage rates to go back to 3% by August, and then they could refinance again or whatever.
At any rate, the refi volume started rising at the beginning of January. From the collapsed levels at the end of December, the weekly Refinance Index, released today by the Mortgage Bankers Association, has now jumped by 77% to the highest level since September.
Pass-through principal payments take their time as they wind their way through the system, from when the mortgage payoff occurs to when the Fed books them on its balance sheet by reducing the balance of its MBS. So we should start seeing that acceleration going forward.
Refi volume is still down 74% from a year ago. But it was down 86% at the end of December. And a year ago, that’s when there was a torrent of pass-through principal payments that far exceeded $35 billion a month. So that’s not the comparison. No one is expecting that torrent of pass-through principal payments.
The comparison is to December and January, and then to the fall last year, to estimate how this increase in pass-through principal payments will speed up the roll-off of MBS, from the current pace of about $17 billion a month.
The Fed just goes ahead and destroys that money = QT.
Every company has a “cash” account, where it accounts for the money it has in the bank or in other near-cash instruments. The Fed doesn’t have a cash account. When it needs money to buy assets, it creates that money; and when it gets paid for assets, it destroys the money.
So what does the Fed do with these pass-through principal payments from the MBS?
The pass-through principal payments reduce the balance of MBS (reducing that asset account on the balance sheet). But instead of simultaneously increasing a cash account by the amount of the pass-through principal payments, as a company would do, the Fed just goes ahead and destroys the money, and total assets on its balance sheet decline by that amount (but a company’s total assets would be unchanged because it’s just replacing MBS with cash, and both are assets).
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