Normalizing the Fed Balance Sheet: Practical Considerations Laurie - - PowerPoint PPT Presentation

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, 2017

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
• rder 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, 2019)?
• Does it matter?

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Determining the Fed’s target portfolio size

The Federal Reserve Balance Sheet through time

Assets ($Billions) 20-Jun-07 20-Jun-12 21-Jun-17 Target

Securities held outright $790,439 $2,623,099 $4,254,154 $2,644,376 Unamortized premiums and discounts $0 $0 $151,898 $0 Repurchase Agreements $21,000 $0 $0 $0 Maiden Lane and TALF $0 $15,597 $1,709 $0 Gold + SDRs $13,237 $16,237 $16,237 $16,237 Other Assets $46,192 $218,106 $50,259 $50,259 Total Assets $870,868 $2,873,039 $4,474,257 $2,710,872

Liabilities ($Billions)

Currency in Circulation (Federal Reserve Notes) $773,636 $1,066,758 $1,508,773 $1,508,773 Deposits other than reserve balances¹ $12,923 $183,913 $305,881 $305,881 Reverse Repurchase Agreements² $30,443 $84,108 $446,236 $247,467 Other liabilities $28,137 $23,808 $7,895 $7,895 Capital Account $16,106 $54,669 $40,856 $40,856 Bank Reserves $9,441 $1,459,783 $2,164,616 $600,000 Total Liabilities $870,686 $2,873,039 $4,474,257 $2,710,872

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Sources: Urban Institute Calculations from FRB H.4.1 Statistical Release. Note: Target assumes 600b 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

Growth of target portfolio over time vs. stated winddown

10,000 20,000 30,000 40,000 50,000 60,000 500,000 1,000,000 1,500,000 2,000,000 2,500,000 3,000,000 3,500,000 4,000,000 4,500,000 5 10 15 20 25 30 35 40 45 50 55 60 65 70 75 80 85 90

Months from the beginning of the wind down

Actual Target Winddown Portfolio size ($Billions)

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Sources: Urban Institute Calculations from FRB H.4.1 Statistical Release. Note: Target assumes 600b in target reserve balances and repurchase agreements other than those of foreign official and international accounts go to zero.

Wind down amount ($Billions)

MBS are not going to winddown at plan

5,000 10,000 15,000 20,000 25,000 5 10 15 20 25 30 35 40 45 50 55 60 65 70 75 80 85 90

Months from the beginning of the wind down

Projected runoff Taper amt $Billions

Sources: Urban Institute Calculations from FRB H.4.1 Statistical Release. Note: Target assumes 600b in target reserve balances and repurchase agreements other than those of foreign official and international accounts go to zero.

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Neither are treasuries

20,000 40,000 60,000 80,000 100,000 120,000 5 10 15 20 25 30 35 40 45 50 55 60 65 70 75 80 85 90

Months from the beginning of the winddown

Total maturities Taper cap $Billions

Sources: Urban Institute Calculations from FRB H.4.1 Statistical Release. Note: Target assumes 600b in target reserve balances and repurchase agreements other than those of foreign official and international accounts go to zero.

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Actual winddown base case

500,000 1,000,000 1,500,000 2,000,000 2,500,000 3,000,000 3,500,000 4,000,000 4,500,000 5 10 15 20 25 30 35 40 45 50 55 60 65 70 75 80 85 90

Months from the beginning of the wind down

Actual Target MBS Treasury Portfolio size ($Billions)

Sources: Urban Institute Calculations from FRB H.4.1 Statistical Release. Note: Target assumes 600b in target reserve balances and repurchase agreements other than those of foreign official and international accounts go to zero.

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Who owns total Agency debt?

0% 10% 20% 30% 40% 50% 60% 70% 80% 90% 100% 2007Q1 2008Q1 2009Q1 2010Q1 2011Q1 2012Q1 2013Q1 2014Q1 2015Q1 2016Q1 2017 Q1

GSEs Commercial Banks Federal Reserve Broker/Dealers REITs Other Mutual Funds Money Market and Pension Funds Foreign Investors Credit Unions

Sources: Federal Reserve Flow of Funds and Urban Institute.

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Move from Active Investors to more Passive Investors

250 500 750 1,000 1,250 1,500 1,750 2,000 40 80 120 160 200 240 280 320 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 Q1 Brokers and Dealers (left) Banks and Thrifts (right) GSE Portfolio (right) Fed holdings $Billions

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Sources: Federal Reserve Flow of Funds, Board of Governors of the Federal Reserve System, Inside Mortgage Finance, and Urban Institute.

$Billions

Fed holdings by coupon and agency

7.0% 37.8% 33.0% 15.7% 4.3% 2.2%

Fed holdings by coupon

2.5 and lower 3 3.5 4 4.5 5 and higher 47.6% 28.9% 23.4%

Fed Holdings by Agency

Fannie Mae Freddie Mac Ginnie Mae

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Sources: Federal Reserve Bank of New York, eMBS, and Urban Institute.

Rising rates have choked off refinancing activity

1000 2000 3000 4000 5000 6000 7000

3.00 3.20 3.40 3.60 3.80 4.00 4.20 4.40 4.60 4.80 5.00 2011 2012 2013 2014 2015 2016 2017 PMMS MBA Applications Survey: Refi Activity Index

PMMS rate vs. Refi Activity Index

PMMS rate Refi Index

Sources: Credit Suisse and Urban institute

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As rates have risen, most of the mortgage universe has become non-refinanceable

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0% 10% 20% 30% 40% 50% 60% 70% 80% 90%

1 2 3 4 5 6 7 8 9 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 WAC %Refinancable

Percent of the 30-year universe that is refinanceable versus the weighted average coupon of the Agency market

WAC Percent

Sources: eMBS, Freddie Mac Primary Mortgage Market Survey (PMMS), and Urban institute

The lock in effect is powerful--higher rates do impact mobility

0% 1% 2% 3% 4% 5% 6% 7% 8% 1 2 3 4 5 6 7 8 9 10 11 12 13 14 15 16 17 18 19 20 21 22 23 24 Rates down 1.5% Rates up 1.5% Number of years (from 1976)

Percent of homebuyers that sell, by length of ownership: 1976-2016

Percent

Source: CoreLogic

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Payment rates may slow more than expected as geographic mobility is down

Source: U.S. Census Bureau, Current Population Survey

1 2 3 4 5 6 7 8 9 10 1988 1992 1996 2000 2004 2008 2012 2016

Percent Movers within Past Year--Owners

Percent 5 10 15 20 25 30 35 40 1988 1992 1996 2000 2004 2008 2012 2016

Percent Movers Within Past Year– Renters

Source: U.S. Census Bureau, Current Population Survey

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30 –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 5.09 11.8 6.02 5.04 12.78 7.41 6.46 3 10.21 7.38 6.91 9.88 7.10 6.59 14.99 10.74 10.43 3.5 14.68 10.72 10.01 15.26 11.74 11.16 20.93 17.20 16.85 4 21.04 14.86 14.85 22.07 17.03 16.95 24.42 22.59 22.61 4.5 19.84 16.82 16.96 20.54 19.30 19.64 23.00 22.83 23.42 5 19.70 20.35 19.86 20.88 21.47 21.75 22.72 22.89 23.43 5.5 19.44 21.65 22.67 18.82 22.61 23.51 20.01 23.36 23.77

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Sources: Freddie Mac Primary Mortgage Market Survey, Mortgage Bankers Association, and Urban Institute.

0.0% 20.0% 40.0% 60.0% 80.0% 100.0% <640 640-659 660-679 680-699 700-759 760+

Channel Choice by Credit Score When Down Payment is 5 - 19.99 Percent

FHA GSE So Source: : eMBS and the Urban Institute. Note

• te:

: 2016 purchase and refinance mortgage. 0.0% 20.0% 40.0% 60.0% 80.0% 100.0% <640 640-659 660-679 680-699 700-759 760+

Channel Choice by Credit Score When Down Payment is 3 - 4.99 Percent

FHA GSE 0.0% 20.0% 40.0% 60.0% 80.0% 100.0% <640 640-659 660-679 680-699 700-759 760+

Channel Choice by Credit Score When Down Payment is 20 Percent or More

FHA GSE

FHA Captures the Riskier Borrowers

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FHA more important for FTHB and Minorities

47.2 82.4 60.0

20% 30% 40% 50% 60% 70% 80% 90% 2001 2002 2003 2004 2005 2006 2007 2008 2009 2010 2011 2012 2013 2014 2015 2016 2017 GSEs FHA GSEs and FHA

First-time homebuyer

0.0% 20.0% 40.0% 60.0% 80.0% 100.0% Asian African American Hispanic Non-Hispanic White

First-Lien Originations by Race/Ethnicity

Conventional Government

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.

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Single Security

• 0.6
• 0.5
• 0.4
• 0.3
• 0.2
• 0.1

0.1 0.2 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

Price Differential 3.0 3.5 4.0

3.0, 3.5, and 4.0 Percent Coupons (Freddie Mac Less Fannie Mae Prices)

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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

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