It’s a Battle Between Stocks and Bonds! Who Will prevail?
In these final weeks of Spring, I’d like to say congratulations
to all the young graduates. Graduation
is a time we all remember, and I must say that it was great to see some
resemblance of normalcy this year. I
also wanted to make one special shout out to Aiden Rodriguez, son of VP of
Operations, William Rodriguez. He is the
first of the Smart Money kids to graduate from high school and we are all very
proud of the fine young man he has become.
Continue to do great things, Aiden.
The aunties and uncles at Smart Money are cheering you on!
Now on to mortgage news. In our last newsletter, we spoke about the
relationship between the Fed Funds rate and mortgage rates. I hope you all got something valuable out of
that article. Today, I’d like to discuss
the relationship between stocks and bonds.
Specifically, how stocks affect mortgage rates.
Imagine two buckets. One
bucket represents the Stock market and the other the Bond market. Now imagine each bucket being filled with
money, and this money represents the money invested in both stocks and bonds. When someone sells a stock, the money comes
out of the stock bucket and can do one of three things. 1) It can buy more stock and go back into the
Stock bucket. 2) It can buy bonds and move to the Bond bucket. 3) Or it can buy neither and be removed from
the market altogether.
I’m not going to get too detailed in order to keep this
simple to understand. Mortgages are a
part of the Bond market. Mortgage loans
are bundled and sold as mortgage bonds to investors. Investors buy bonds and receive a fixed rate
of return on their money. If investors
are buying Stocks, then that means their money is not buying bonds and all the
money is going into the Stock bucket.
When this happens the stock market increases in value. This then forces the bond market to convince
stock investors to come to their side and invest in their bucket. The way bonds do this is to increase the
interest rate the bond is paying to its investors. The interest rate of return must be
attractive enough for an investor to choose a bond investment over a stock
investment. If a mortgage bond must pay
out more interest to investors, then the mortgages that make up these bonds must
also have higher interest rates to support the bond payout. For this reason, mortgage interest rates have
been climbing higher in recent months.
You might now be thinking why didn’t mortgage rates go
through the roof when the stock market was at all-time highs during the
pandemic? And why aren’t rates dropping
now that stock values have been falling?
Both are great questions, and the answer is….. The Feds!
During the pandemic, the Feds started a bond-buying program
to prevent the economy from collapsing.
They learned from their mistakes in the last recession and quickly went
into action to buy bonds and treasuries.
So, during the pandemic money from investors were filling up the Stock
bucket and not the Bond bucket. The Feds
quickly decided to pump money into the Bond bucket to prevent mortgage rates
from increasing and to keep the real estate market viable. In fact, the Feds bought so many bonds and
treasuries, about $6 trillion worth in two years, that they were able to
artificially bring mortgage rates into the 2’s.
This is something we may never see again in our lifetime!
The sad news is that every good thing must eventually come
to an end and have its unintended consequences.
The Fed’s bond-buying program ended in May 2022. This means the markets will have to naturally
adjust to each other and we’ll start to see the more natural relationship
between stocks and bonds mentioned earlier.
In a nutshell, rates are most likely going to continue to go up unless
we come across another recession where the Feds intervene again. Also, the consequence of the Feds printing
more money to buy bonds and treasuries has pumped so much money into the system
that we are now in a world of high inflation.
Inflation makes things we buy more expensive and makes mortgage rates go
higher as well.
This was a long article, so I thank you for hanging in
there. However, it is important to
understand the relationships between the markets. Our loan originators here at Smart Money are
in tune with what the markets are doing, and we have made some great
relationships over the years with our investors to give our clients the best
rates and programs no matter what environment we are in. We thank you for your support and hope to
remain a valuable service to you and yours.
Mahalo,
Daryn Ogino
Smart Money Hawaii - President, NMLS #278557
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