Foreign central bank investors, predominantly China, are significantly increasing holdings of prime mortgage assets, according to the market buzz among mortgage-backed securities officials. This demand would be a boon to the mortgage market at a time when it is beginning to face decreased participation from the government-sponsored enterprises and demand from bank portfolios has been inconsistent.
Although dealers are loathe to reveal clients, and the strategy of influential buyers such as central banks is a closely guarded secret, there seems to be a consensus that overseas money is steadily moving into the U.S. mortgage market and will continue to do so. This demand could push spreads in MBS land, already tight, to ever narrower levels.
"There is plausible rationale for significant involvement from China. I am not saying they are definitely buying mortgages, but there certainly is a consistent buzz about Asian buying," said Steve Abrahams, managing director in mortgage research at Bear Stearns in New York. He stressed he is only working off an assumption and does not have any conclusive information to this extent, noting it is impossible to attribute spread movements to any single factor.
There is no definitive proof of increasing involvement from central banks in mortgages, but recent data from the Treasury appears to be supportive. Chinese holdings of U.S. agency product (the data does not differentiate between debentures and mortgage-backeds) have grown to more than $120 billion in recent years, about $20 billion more than Treasuries and the gap appears to be widening. And with agency issuance slower and concern across Asia about unsecured agency product given the recent Office of Federal Housing Enterprise Oversight report on accounting irregularities at Fannie Mae accounting, MBS pros say--and hope--it makes sense for China to be shifting to mortgages now.
The extra yield offered by pass-throughs are an additional plus. "Despite tight spreads, we continue to see robust demand for spread product," said Jon Sobel, managing director and head of the mortgage group at Goldman Sachs. He declined to be more specific.
China's importance as a buyer is growing because its foreign currency reserves have ballooned to $501 billion, making it second only to Japan, Abrahams said in Bear Stearns' weekly Across the Curve in Rates and Structured Products report. He cited data from the International Monetary Fund.
As for which assets would be sought, Abrahams said liquid pass-throughs would be most likely. "My speculation would be any asset they buy has to first have the most pristine liquidity."
