The Fed’s Quantitative Tightening (QT) Problem in Three Pictures – Mish Talk

May 3, 2022

Fed's balance sheet chart by Mish — Fed’s balance sheet chart by Mish

I created the above sheet from the Federal Reserve report on Credit and Liquidity Programs and the Balance Sheet

The Fed says it will unwind its balance sheet, namely US Treasuries and Mortgage Backed Securities (MBS).

First, here’s a look at what else the Fed is holding at the moment.

Fed’s Balance Sheet Details

The Fed expanded QE aggressively for years. But nearly all of that expansion was longer-dated securities as the following chart shows.

Fed’s Balance Sheet by Duration

Fed’s balance sheet details chart by Mish

If the Fed had short-term securities it could reduce its balance sheet simply by runoff.

Instead, the Fed will aggressively have to sell securities, especially MBS, if it really wants to reduce its balance sheet as quickly as it has implied.

This is with housing and the economy already slowing.

How High Will 30-Year Mortgage Rates Go in 2022?

Earlier today, I asked How High Will 30-Year Mortgage Rates Go in 2022?

Mortgage rates are strongly correlated to the 10-year treasury yield. Other factors include Mortgage Rate Convexity, QT, and hedge funds front-running QT. See the above link for discussion.

If the Fed does aggressive balance sheet reduction, including mortgages, we are likely to see a sustained jump in mortgage rates even if the yield on 10-year notes levels off.