Normalizing the Fed Balance Sheet: Practical Considerations Laurie Goodman Co-Director, Housing Finance Policy Center Urban Institute FRB of NY/ Columbia SIPA New York, NY July 11, 217
Questions about the wind down What should the terminal size of Fed portfolio be? Much larger than pre-crisis. The growth of currency in circulation alone requires that. What should the terminal composition of the Fed portfolio be? Treasuries only, Treasuries + MBS? The case for the inclusion of MBS in a perfect world is weak. A more active MBS policy could act as a stabilizer, its not clear to me that this should be the Fed s role What do you do with the MBS tail? The tail will be quite sizeable. Would just holding it distort the market? Wind down mix? Do you want to wind down Ginnie/Conventional mix less than proportionately in order to favor the first time home buyer? Do you want to reinvest in MBS that are less prone to prepayment slowdowns? Will the Fed convert legacy Freddie s to the single security (Q2, 219)? Does it matter? 2
Determining the Fed s target portfolio size The Federal Reserve Balance Sheet through time Assets ($Billions) 2-Jun-7 2-Jun-12 21-Jun-17 Target Securities held outright $79,439 $2,623,99 $4,254,154 $2,644,376 Unamortized premiums and discounts $ $ $151,898 $ Repurchase Agreements $21, $ $ $ Maiden Lane and TALF $ $15,597 $1,79 $ Gold + SDRs $13,237 $16,237 $16,237 $16,237 Other Assets $46,192 $218,16 $5,259 $5,259 Total Assets $87,868 $2,873,39 $4,474,257 $2,71,872 Liabilities ($Billions) Currency in Circulation (Federal Reserve Notes) $773,636 $1,66,758 $1,58,773 $1,58,773 Deposits other than reserve balances¹ $12,923 $183,913 $35,881 $35,881 Reverse Repurchase Agreements² $3,443 $84,18 $446,236 $247,467 Other liabilities $28,137 $23,88 $7,895 $7,895 Capital Account $16,16 $54,669 $4,856 $4,856 Bank Reserves $9,441 $1,459,783 $2,164,616 $6, Total Liabilities $87,686 $2,873,39 $4,474,257 $2,71,872 Sources: Urban Institute Calculations from FRB H.4.1 Statistical Release. Note: Target assumes 6b in target reserve balances and repurchase agreements other than those of foreign official and international accounts go to zero. All numbers are in billions of dollars. ¹ Comprised of US Treasury General Account, Term deposits of depository institutions, foreign official and other deposits, and bank clearing deposits. ² Comprised of foreign official/international accounts and other 3
Growth of target portfolio over time vs. stated winddown Portfolio size ($Billions) 4,5, Actual Target Winddown Wind down amount ($Billions) 6, 4,, 3,5, 3,, 2,5, 2,, 1,5, 1,, 5, 5 1 15 2 25 3 35 4 45 5 55 6 65 7 75 8 85 9 Months from the beginning of the wind down 5, 4, 3, 2, 1, Sources: Urban Institute Calculations from FRB H.4.1 Statistical Release. Note: Target assumes 6b in target reserve balances and repurchase agreements other than those of foreign official and international accounts go to zero. 4
MBS are not going to winddown at plan $Billions 25, Projected runoff Taper amt 2, 15, 1, 5, 5 1 15 2 25 3 35 4 45 5 55 6 65 7 75 8 85 9 Months from the beginning of the wind down Sources: Urban Institute Calculations from FRB H.4.1 Statistical Release. Note: Target assumes 6b in target reserve balances and repurchase agreements other than those of foreign official and international accounts go to zero. 5
Neither are treasuries $Billions 12, Total maturities Taper cap 1, 8, 6, 4, 2, 5 1 15 2 25 3 35 4 45 5 55 6 65 7 75 8 85 9 Months from the beginning of the winddown Sources: Urban Institute Calculations from FRB H.4.1 Statistical Release. Note: Target assumes 6b in target reserve balances and repurchase agreements other than those of foreign official and international accounts go to zero. 6
Actual winddown base case Portfolio size ($Billions) 4,5, Actual Target MBS Treasury 4,, 3,5, 3,, 2,5, 2,, 1,5, 1,, 5, 5 1 15 2 25 3 35 4 45 5 55 6 65 7 75 8 85 9 Months from the beginning of the wind down Sources: Urban Institute Calculations from FRB H.4.1 Statistical Release. Note: Target assumes 6b in target reserve balances and repurchase agreements other than those of foreign official and international accounts go to zero. 7
Who owns total Agency debt? 1% 9% 8% 7% 6% 5% 4% 3% Other Foreign Investors Credit Unions Money Market and Pension Funds Mutual Funds REITs GSEs Broker/Dealers Commercial Banks 2% 1% Federal Reserve % 27Q1 28Q1 29Q1 21Q1 211Q1 212Q1 213Q1 214Q1 215Q1 216Q1 217 Q1 Sources: Federal Reserve Flow of Funds and Urban Institute. 8
Move from Active Investors to more Passive Investors $Billions 32 Brokers and Dealers (left) Banks and Thrifts (right) GSE Portfolio (right) Fed holdings $Billions 2, 28 1,75 24 1,5 2 1,25 16 1, 12 75 8 5 4 25 2 21 22 23 24 25 26 27 28 29 21 211 212 213 214 215 216 217 Q1 Sources: Federal Reserve Flow of Funds, Board of Governors of the Federal Reserve System, Inside Mortgage Finance, and Urban Institute. 9
Fed holdings by coupon and agency Fed holdings by coupon Fed Holdings by Agency 2.2% 4.3% 7.% 15.7% 23.4% 37.8% 47.6% 33.% 28.9% 2.5 and lower 3 3.5 4 4.5 5 and higher Fannie Mae Freddie Mac Ginnie Mae Sources: Federal Reserve Bank of New York, embs, and Urban Institute. 1
Rising rates have choked off refinancing activity PMMS rate vs. Refi Activity Index PMMS rate 5. 4.8 4.6 4.4 4.2 4. 3.8 3.6 3.4 3.2 PMMS MBA Applications Survey: Refi Activity Index 3. 211 212 213 214 215 216 217 Refi Index 7 6 5 4 3 2 1 Sources: Credit Suisse and Urban institute 11
1999 2 21 22 23 24 25 26 27 28 29 21 211 212 213 214 215 216 217 As rates have risen, most of the mortgage universe has become non-refinanceable Percent of the 3-year universe that is refinanceable versus the weighted average coupon of the Agency market WAC WAC %Refinancable Percent 9 9% 8 8% 7 7% 6 6% 5 5% 4 4% 3 3% 2 2% 1 1% % Sources: embs, Freddie Mac Primary Mortgage Market Survey (PMMS), and Urban institute 12
The lock in effect is powerful--higher rates do impact mobility Percent of homebuyers that sell, by length of ownership: 1976-216 Percent Rates down 1.5% Rates up 1.5% 8% 7% 6% 5% 4% 3% 2% 1% % 1 2 3 4 5 6 7 8 9 1 11 12 13 14 15 16 17 18 19 2 21 22 23 24 Source: CoreLogic Number of years (from 1976) 13
Payment rates may slow more than expected as geographic mobility is down Percent 1 Percent Movers within Past Year--Owners 4 Percent Movers Within Past Year Renters 9 35 8 7 3 6 25 5 2 4 15 3 2 1 1 5 1988 1992 1996 2 24 28 212 216 Source: U.S. Census Bureau, Current Population Survey 1988 1992 1996 2 24 28 212 216 Source: U.S. Census Bureau, Current Population Survey 14
3 year prepayment speeds by coupon 3 Month CPR 6 Month CPR 12 Month CPR Ginnie Mae Fannie Mae Freddie Mac Ginnie Mae Fannie Mae Freddie Mac Ginnie Mae Fannie Mae Freddie Mac 2.5 12.68 6.64 5.9 11.8 6.2 5.4 12.78 7.41 6.46 3 1.21 7.38 6.91 9.88 7.1 6.59 14.99 1.74 1.43 3.5 14.68 1.72 1.1 15.26 11.74 11.16 2.93 17.2 16.85 4 21.4 14.86 14.85 22.7 17.3 16.95 24.42 22.59 22.61 4.5 19.84 16.82 16.96 2.54 19.3 19.64 23. 22.83 23.42 5 19.7 2.35 19.86 2.88 21.47 21.75 22.72 22.89 23.43 5.5 19.44 21.65 22.67 18.82 22.61 23.51 2.1 23.36 23.77 Sources: Freddie Mac Primary Mortgage Market Survey, Mortgage Bankers Association, and Urban Institute. 15
FHA Captures the Riskier Borrowers 1.% 8.% 6.% 4.% 2.%.% 1.% 8.% 6.% 4.% 2.%.% 1.% 8.% 6.% 4.% 2.%.% FHA FHA FHA <64 64-659 66-679 68-699 7-759 76+ GSE GSE Channel Choice by Credit Score When Down Payment is 5-19.99 Percent <64 64-659 66-679 68-699 7-759 76+ Source: embs and the Urban Institute. Note: 216 purchase and refinance mortgage. Channel Choice by Credit Score When Down Payment is 3-4.99 Percent Channel Choice by Credit Score When Down Payment is 2 Percent or More GSE <64 64-659 66-679 68-699 7-759 76+ 16
FHA more important for FTHB and Minorities First-time homebuyer GSEs FHA GSEs and FHA 9% 8% 82.4 7% 6% 5% 4% 6. 47.2 3% 2% 21 22 23 24 25 26 27 28 29 21 211 212 213 214 215 216 217 First-Lien Originations by Race/Ethnicity Conventional Government 1.% 8.% 6.% 4.% 2.%.% Asian African American Hispanic Non-Hispanic White Sources: embs, Federal Housing Administration (FHA ), HMDA and Urban Institute. Note: All series measure the first-time homebuyer share of purchase loans for principal residences. 17
Sep-11 Nov-11 Jan-12 Mar-12 May-12 Jul-12 Sep-12 Nov-12 Jan-13 Mar-13 May-13 Jul-13 Sep-13 Nov-13 Jan-14 Mar-14 May-14 Jul-14 Sep-14 Nov-14 Jan-15 Mar-15 May-15 Jul-15 Sep-15 Nov-15 Jan-16 Mar-16 May-16 Jul-16 Sep-16 Nov-16 Jan-17 Mar-17 May-17 Single Security 3., 3.5, and 4. Percent Coupons (Freddie Mac Less Fannie Mae Prices) Price Differential.2 3. 3.5 4..1 -.1 -.2 -.3 -.4 -.5 -.6 18
Some thoughts for a practical wind down 1. It would be very helpful to know how the Fed is thinking about its target portfolio, so that market participants can better gauge the necessary amount of the wind down. 2. It would be very helpful to know how the Fed is thinking about the mortgage tail. 3. It may well make sense to skew reinvestments in MBS towards slightly higher coupons, as it will lessen the tail issue 19
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