Can anyone working in mortgage field provide some insights? Based on the textbook book, two bond hedge strategy for mortgage securities use 2 + 10 year Treasury. I am curious whether 30 year is used since a lot of fixed rate mortgages are 30 y. If it is not popular, would you mind telling me why. BTW, do you know whether swap is preferred to treasury when it comes to hedging mortgage?
“what’d you doooOOooo???” - Tommy Boy Yeah, that textbook got some people in deep stuff this year. What’s the term again? Basis risk maybe. Oh yeah, the 30 year UST comes and goes so that adds to the challenge.
maturity does not equal duration. remember, MBS pay principal and interest every month, while a 30yr UST has a big slug of principal at the end, making it far longer. 30-yr UST is a poor hedge for a mortgage. Im not a mortgage guy, so take this with a grain of salt, but ideally you would want to hedge out interest rate risk and negative convexity, so I would lean toward swaps and swaptions.
you usually hedge mortgage risk with mortgages. yes you long mortgages with spread (due to geographics, loan size, ltv, borrower type, etc) with mortgages without spread (homogenous TBAs). Treasuries seperated from mortgages a long time ago.
That’s interesting, I didn’t know that. They teach the two bond hedge in the L3 curriculum. I assumed that was because it was too difficult to hedge a mortgage with another mortgage, or at least too difficult to keep them similar enough to be good hedges.
Didn’t some guy named David Askin figure this all out years ago?
normally a 30 yr mortgage has about the same duration of a 10yr treasury, so the 10yr treasury should be a better benchmark for your purpose
Lig, Grover33, Skiloa, and Bchadwick. Thank you for your inputs. yes, 30 T is not as liquid as 10 y and was discontinused in 2001(?) and it definately posed a issue. duration and principal + interest are good points. I almost forgot them. Skiloa, your points sounds convincing when hedging credit risk. But TBA volume is prob dominating the mortgage mkt and TBAs are not just bought to hedge other MBS position. How do investors hedge TBA’s interest rate and convexity risks? Will they use 2 Trea bonds or swaps? I am asking this question to figure the negative spread between 30y and 10 y Trea/Swaps. 30 Y vs. 10 Y swap spread is negative recently, and much more negative than 30 Y vs 10 Y T spread recently. Recession can explain a lot of buying for 10y. But strong buying 30y means investor expect a a prolonged recession, more than 10 years. I do not believe this is true. So I am trying to figure whether it is related to mortgage. There are a lot of refinancing recently due to rate cuts. How do u guys think? why 30y T/30 Swap is so popular in deep recession?