Although technicals in the mortgage market are still considered positive and the housing sector remains robust, MBS market participants are beginning to prepare for the eventuality of rising rates and the accompanying risks. The diminishing 30-year sector and growth in alternative affordability products are also noteworthy trends coming into the New Year. Aside from these, related issues such as FAS 133 and the recent GSE accounting woes remain in the foreground as 2005 rolls in.
Andrew Davidson, president of Andrew Davidson & Co., Inc., said that the market has been in a two-year holding pattern where rates stayed low. However, spreads have been tightening recently while risks have been increasing. Short-term rate increases, for instance, have made it harder and harder to maintain the income investors are earning on trades, which is only one of a multitude of effects on the market. Davidson noted, however, that the market has not yet reached the breaking point, but it has become more difficult to maintain stable price levels. Davidson said that home price appreciation continues to be the key to the mortgage market. If rates stay relatively low, the high level of home prices can be sustained. However, once rates rise, he expects either home price growth to dip or even stop.