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| top: spread between mortgage rates and MBS yield bottom: spread between CC MBS and 7-year US treasury note |
...there is evidence to doubt whether lower MBS spreads will be passed on to customers or whether the banks will keep the windfall. Despite current coupons trading at record tight spreads, the "primary-secondary" spread remains, not only stubbornly high, but near all-time record highs! Proponents of the MBS Twist insist that the Fed can put pressure on the "primary-secondary" spread and push savings to borrowers by increasing (more in a second) their purchases of current coupons, but to me it is clear that the problem lies in the demand, not supply, side of loans. This is why, unless we see further expansion of H.A.R.P. (Home Affordable Refinance Program) which increases the pool of homeowners eligible for refinance, I think the ultimate effect of an "MBS Twist" on aggregate demand will be limited and the ultimate economic beneficiaries will be banks and security holders who see their securities increase in price.Since Chairman Bernanke announced the latest round of open-ended LSAPs, current-coupon MBS has tightened 56bp to Treasuries while the primary-secondary spread widened 31bp to all-time record highs despite 7y Treasury notes trading 10bp wider than pre-FOMC. Meanwhile, earlier today, MBS traded flat to 10y swaps. It is clear who's keeping the windfall for now.
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