It is no surprise, given the baying for blood from bond bears, that mortgage rates will come under close scrutiny - especially given the supposed reasoning for much of the various LSAPs has been to keep rates low to 'aid' homeowners (as opposed to flush nominal prices to the moon in every risk asset based on the risk premia-reducing duration-crushing portfolio-rebalancing effect). The effects on various asset classes from the announcement and inception of Operation Twist have been varied with Equities (and until the last month high-yield credit) benefiting the most (nominally). What few have noticed was that mortgage spreads actually raced to record tights and were outperforming (on a beta-adjusted basis) stocks and bonds into the end of January. Since then, Treasury yields have crept higher and mortgage spreads have leaked wider. The last week or so of dramatic decompression in Treasury yields has seen only a small compression in mortgage spreads leading the all-important (apparently) mortgage rates to rise significantly (now at almost 5-month highs). While the relationship between mortgage applications and rates has become tenuous at best, we suspect the velocity of the rise in the mortgage rate will conversely see a rise in applications in the short-term but obviously over time will only prove to stunt any nascent recovery that the NAHB/NAR believes is in place (and perhaps the weaker than expected Fed data is already showing that). For now, it seems evident that mortgage spreads remain a major outperformer - still relatively narrow on expectations of future QE and being short mortgage rates and long Treasuries (generically) seems as low cost a way to play disappointment for QE3 as any here.
Cross-Asset Class moves post Operation Twist Announcement...
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The 30Y current coupon mortgage rate (blue line) is rising dramatically but mortgage spreads (pink line) are still relatively tight - remaining second only in future expectations (given their performance) to nominal equity prices. The Treasury curve has steepened, humped, and risen in yield in the last week or so back up to unchanged from the action dates of Operation Twist and significantly higher in yield from the announcement date (far left of the screen).
Of course the various pre-payment interactions as rates rise will have an impact but it seems to us that mortgage spreads remain significantly full of hope for more LSAPs than the rest of the bond market does.
Chart: Bloomberg