Friday, February 27, 2009

Trading activity in the mortgage market during this last business day of February is relatively light. Investors are taking a breather after they were called upon to absorb a record $94 billion of government debt this week. Uncle Sam won't return to the credit markets for another major feeding frenzy until the second week of March.

With market participants growing accustomed to grim economic headlines price action in the mortgage market over the coming week or two will likely be most influenced by trading activity in the stock markets and reaction to headline news - particularly to anything related to the issue of Congressional approval of the proposed law that would allow bankruptcy judges to reduce the financial strain for some struggling borrowers.

Let's look at each of these two mortgage market influences individually.
Should the stock market collapse into one last final leg down (a fairly high probability event in most opinions - probably occurring before the end of March) the flight of capital from stocks to the relative safe haven of Treasury obligations will not only provide a buttress for the massive amount of government debt on the auction block - it should also be supportive of steady to perhaps fractionally lower mortgage interest rates.

Democratic leaders of the House have postponed until next week a vote on a controversial measure to let bankruptcy judges unilaterally reduce mortgage debt for certain borrowers. It appears that influential members of Congress are beginning to see the light - recognizing that giving bankruptcy judges sweeping power to modify home loans could cause mortgage investors to price-in a whole new dimension of risk to their mortgage-backed security purchases. If the risk structure on these investments rises - their prices will fall - and in our world falling prices equal higher mortgage interest rates. This issue is expected to come to vote on the House floor on Tuesday - if it passes - look for mortgage investors to register their strong disapproval by pushing mortgage interest rates higher.

Speaking of next week, the economic calendar offers everything from the Fed's favorite reading of inflation at the consumer level (contained in the Personal Income and Spending report on Monday) to an analysis of the depth of the woes in the labor sector on Friday with the release of the February nonfarm payroll report. Investors have already priced-in expectations for gruesome economic data -- so the only risk is that the news is better-than-expected. While such an event is possible - it is certainly not very probable.