The Relationship Between Bond Prices and Mortgage Rates – Lee Chandler

The relationship between bond prices and their coupon is evident; however, the relationship between a bonds coupon and mortgage rates may not be so apparent. As a  refresher, as bond prices go up, the coupon goes down. Mortgage rates follow a bond’s coupon; therefore, as the coupon goes up, mortgage rates would go up as well. The significance of this is that bond prices may be able to be incorporated, as an indicator, into an analysis of mortgage rate. No single indicator should be used in the analysis of mortgage rates; it would greatly benefit one to incorporate both technical and fundamental analysis.

In pictures A1, a 5-year trend of a 30 and a 10-year treasury bill, and A2, a 5-year trend of 30 and 15 years, a similar slope can be seen between the two graphs. The 30 and 10-year  treasury bill has a slope of -0.0005, while the slope of the mortgage rate was -0.0001. A1.) 

5-Year Trend of 30 and 10-year treasury bills 

3.5 

2.5 

1.5 

y = -0.0005x + 23.825 

0.5 

1/1/15 1/1/16 1/1/17 1/1/18 1/1/19 1/1/20 20 Yr 30 Yr Linear (30 Yr)

A2.) 

5-year trend mortgage rates 

5.00 

4.50 

4.00 

3.50 

3.00 

2.50 

2.00 

1.50 

1.00 

0.50 

0.00 

y = -0.0001x + 10.076 

Mortgage Rate 30-Yr 

Mortgage Rate 15-yr

1/1/15 1/1/16 1/1/17 1/1/18 1/1/19 1/1/20 

A relationship like this exists due to a multitude of variables. For instance, many mortgage loans, whether they have fixed or floating interest rates, use treasury bills as a  benchmark for setting their rates. Say a bond that has a maturity of 30-years uses the treasury bill as a benchmark. If the bond uses a floating coupon, and the treasury bill interest rate decreases, the floating interest will decrease accordingly. 

The correlation between bond prices and mortgage rates can be very useful in determining whether the cost of mortgage loans will increase or decrease significantly. Furthermore, reasons such as the aforementioned one, or when one may want to determine the level of borrowing that may occur in a certain region, are reasons as to why one may want to incorporate bond price in an analysis of mortgage rates.

 

Joseph Kuta

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