Fed Tapering: Who Cares?

Why the Fed tapering might have minimal impact on long-term interest rates for the foreseeable future.

Jul 14, 2014 at 10:49AM

The Fed's monthly purchases of U.S. Treasuries and mortgage-backed securities is coming to an end. Recent Fed minutes suggest that "QE infinity" could end as soon as October.

And for all the talk about an end to quantitative easing, the market doesn't seem to care. U.S. Treasury rates have been mostly stagnate.

The players that should have been most affected haven't been. Highly levered Annaly Capital Management (NYSE:NLY) and American Capital Agency (NASDAQ:AGNC) have been off to a great 2014.

AGNC Chart

AGNC data by YCharts

What's happening?
Put simply, the Fed represents only a single source of demand for U.S. Treasuries and mortgage-backed securities. Recently, banks have stepped up their U.S. Treasury purchases to hold on balance sheet.

It seems silly to be buying U.S. Treasuries at a time when the consensus is that rates should be going up any minute now. But banks have access to "held-to-maturity" accounting. They don't have to take writedown losses on those accounts when they expect to be paid in full at maturity. And spreads between deposit rates (which are near-zero) and 10-year U.S. Treasuries are still quite high -- high enough to make a bank profitable.

So while the Fed ends its buying, higher rates on the margin are encouraging banks to take the easy way out by buying risk-free U.S. Treasuries and agency MBSes instead of making loans.

Bank Us Treasuries

Not the fed, but banks
If the trend holds that banks refrain from lending and instead simply arbitrage short-term deposit rates and risk-free U.S. Treasury and agency securities, mortgage REITs should survive rate increases just fine.

All the cash in the banking system effectively serves as a tamper on a rising rate environment. Now more than ever, banks are pretty happy not to be lending. Borrowing at 0.05% and lending to the government at 2.5% is a "good enough" business model.

That's good for American Capital Agency and Annaly Capital, which need rates to increase slowly in order to escape a rising rate environment with minimal losses to their leveraged balance sheets. Bank participation in U.S. Treasury and MBS markets should help keep rates from an instantaneous jump, which is exactly the situation mREIT shareholders don't want to see.

And as long as this trend persists -- it has been going on since the financial crisis -- there's no reason to think that an end to quantitative easing should bring an immediate and substantial increase in long-term rates. That's good for Annaly, and American Capital Agency.

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Jordan Wathen has no position in any stocks mentioned. The Motley Fool has no position in any of the stocks mentioned. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.

4 in 5 Americans Are Ignoring Buffett's Warning

Don't be one of them.

Jun 12, 2015 at 5:01PM

Admitting fear is difficult.

So you can imagine how shocked I was to find out Warren Buffett recently told a select number of investors about the cutting-edge technology that's keeping him awake at night.

This past May, The Motley Fool sent 8 of its best stock analysts to Omaha, Nebraska to attend the Berkshire Hathaway annual shareholder meeting. CEO Warren Buffett and Vice Chairman Charlie Munger fielded questions for nearly 6 hours.
The catch was: Attendees weren't allowed to record any of it. No audio. No video. 

Our team of analysts wrote down every single word Buffett and Munger uttered. Over 16,000 words. But only two words stood out to me as I read the detailed transcript of the event: "Real threat."

That's how Buffett responded when asked about this emerging market that is already expected to be worth more than $2 trillion in the U.S. alone. Google has already put some of its best engineers behind the technology powering this trend. 

The amazing thing is, while Buffett may be nervous, the rest of us can invest in this new industry BEFORE the old money realizes what hit them.

KPMG advises we're "on the cusp of revolutionary change" coming much "sooner than you think."

Even one legendary MIT professor had to recant his position that the technology was "beyond the capability of computer science." (He recently confessed to The Wall Street Journal that he's now a believer and amazed "how quickly this technology caught on.")

Yet according to one J.D. Power and Associates survey, only 1 in 5 Americans are even interested in this technology, much less ready to invest in it. Needless to say, you haven't missed your window of opportunity. 

Think about how many amazing technologies you've watched soar to new heights while you kick yourself thinking, "I knew about that technology before everyone was talking about it, but I just sat on my hands." 

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That's why I hope you take just a few minutes to access the exclusive research our team of analysts has put together on this industry and the one stock positioned to capitalize on this major shift.

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David Hanson owns shares of Berkshire Hathaway and American Express. The Motley Fool recommends and owns shares of Berkshire Hathaway, Google, and Coca-Cola.We Fools don't all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.

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