Fed launches open‑ended QE3 focused on MBS
The Fed began open‑ended MBS purchases, later expanding to Treasuries, linking asset buying to labor market progress. We extended duration, added MBS basis exposure, and leaned into housing‑levered equities as policy suppressed term and mortgage risk premia.
The FOMC introduced open‑ended purchases of agency MBS at $40 billion per month, signaling accommodation tied to labor market outcomes rather than a fixed quantity. The move compressed mortgage spreads and pushed real yields deeper negative, while forward guidance anchored rate expectations at the zero lower bound.
Housing data had been stabilizing, and the policy aimed to reinforce a nascent recovery through lower mortgage rates and wealth effects. Equity markets responded positively, with homebuilders, REITs, and rate‑sensitive sectors outperforming. The dollar softened modestly as relative policy stances diverged from peers earlier in normalization planning.
MBS prepayment assumptions shifted as refinance incentives improved, steepening the conditional prepayment function. We favored specified pools with call protection features and scrutinized servicer performance. On the curve, we preferred intermediate duration where QE demand concentrated, avoiding crowded extremes vulnerable to flow shocks.
We lengthened duration across core fixed income, added agency MBS exposure with favorable collateral profiles, and trimmed cash. In equities we modestly increased housing and consumer discretionary weights. Risk controls included option overlays to cap drawdowns should inflation surprises or taper signals emerge earlier than communicated.
- Open‑ended QE compressed mortgage spreads
- Housing‑linked assets benefited
- We added agency MBS and extended duration
