As noted in USA Today, dipping mortgage rates could be attributed to the improving sentiment of bond investors. That’s especially the case for those investing in mortgage bonds. And that creates an opportunity for the Vanguard Mortgage-Backed Securities Index Fund ETF Shares (VMBS).
Declining interest rates have put real estate back into the investing spotlight as greater affordability should help spur the housing industry again. As USA Today mentioned, the spread between prevailing 30-year mortgage rates and the benchmark 10-year Treasury rate is starting to narrow. This is in stark contrast to a few years ago when runaway inflation was pushing yields, and thus rates, to stratospheric levels that affected housing affordability. As such, prospective home buyers and prospective refinancing customers have been putting their plans on hold due to high rates. But that could change in the coming months as the Fed starts to ease monetary policy.
In turn, this could prop up a fund like VMBS. The fund offers a cost-effective ingress to mortgage bonds with its 0.03% expense ratio ($3 per $10,000 invested). Furthermore, it offers an alternate path to fixed income with a 4.04% 30-day SEC yield (as of October 21). As rates and yields begin to fall, fixed income investors accustomed to the high yields the last few years may be mulling options as the Fed cuts rates further. Mortgage-backed securities could be a viable option to help fill the income void.
With over 1,400 holdings, VMBS offers deep diversification. The fund also tilts toward higher-quality credit by focusing on MBS assets guaranteed by quasi-governmental institutions like Ginnie Mae as well as government-sponsored enterprises like Fannie Mae and Freddie Mac. The average effective maturity is close to seven years, giving VMBS more of an intermediate bond fund skew. This is helpful in providing a middle-ground solution for investors to extract higher yield. It also mitigates the rate risk that’s higher when stepping further out on the yield curve.
Resilient Housing Market
Speaking toward the confidence of bond investors as rates fall, the housing market stayed fairly resilient as USA Today also mentioned. At their apex in 2022, mortgage rates pushed above the 7% mark. The housing market did bend, but it didn’t break.
“The question was, what are higher mortgage rates going to do to the housing market? They’re going to crush the housing market, right? It’s going to be a huge recession. You’re going to see prices drop by 20%. We’re going to have a crash. And that didn’t come to pass,” said Jake Krimmel, a senior economist at Realtor.com.
As rates fall, that confidence in the housing market, and thus, assets like MBS, should gain further.
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