The Fed Will Not Hit its Own Quantitative Tightening Schedule – Mish Talk

July 28, 2022

Fed's Mortgage Backed Securities forecast from NY Fed. Annotations by Mish. — Fed’s Mortgage Backed Securities forecast from NY Fed. Annotations by Mish.

On March 2, a New York Fed Study projected MBS principle payments based on its assessment of market rates. The above chart is from that study.

On May 4, the Fed announced a Statement Regarding Plans for Reducing SOMA Holdings of Treasury Securities, Agency Debt, and Agency Mortgage-Backed Securities. The following chart shows the expected QT.

Total Monthly Caps

QT Cap Synopsis

The Fed placed $17.5 billion MBS caps for June-August and $35.0 billion thereafter.
The Fed placed $30.0 billion Treasury caps for June-August and $60.0 billion thereafter.

The Fed can easily hit its Treasury targets. It has a massive balance sheet of every duration for runoffs to work without actively selling anything.

MBS is another matter and the results speak for themselves.

Fed Securities Held Outright Billions

Monthly Averages Balances via St. Louis Fed, chart by Mish

The yellow highlights and numbers show March average vs the July average. Let’s hone in on the changes.

Fed Securities Held Outright Change in Billions

Change in Monthly Averages Balances via St. Louis Fed, chart by Mish

Numerous people have claimed the Fed is missing its Treasury QT targets. The Fed is actually doing fine on that score because there are known settlement lags.

MBS is a disaster as I predicted from the outset. To understand the Fed’s dilemma, consider the Fed’s balance sheet by duration.

Fed’s Balance Sheet by Duration

Fed’s Balance Sheet data from New York Fed, chart by Mish.

Balance Sheet Analysis

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The Fed has plenty of room to meet its QT schedule for Treasuries by natural runoff and it will.
The Fed has no room to meet its QT schedule for MBS by natural runoff.
It’s rather difficult to meet $30 billion in monthly MBS runoffs on a portfolio holding of $2 to $55 million.

The Fed needs prepayments (existing home sales) to meet its MBS targets. Well, guess what?

Existing Home Sales

Existing home sales courtesy of Trading Economics annotations by Mish

It would seem the Fed should have done a little bit better than $1.7 billion and $1.1 billion in the last two months, but that was it.

Even if there are delays in closing data, the Fed’s own projections show it will not hit its announced targets.

I suggest the Fed dramatically overestimated existing home sales and it will not come close to its MBS QT schedule unless it changes its policy and resorts to outright sales instead of runoffs.