2. With employment slow to rebound, the U.S.
Federal Reserve Board (the Fed) probably won’t
rush to raise interest rates anytime soon, and
that could bode well for Government National
Mortgage Association securities (GNMAs).
3. GNMAs are mortgage-backed
securities, meaning securities
that hold portfolios
of mortgages. They are
issued by the U.S. Department
of Housing and Urban Development (HUD)
and are backed by the full faith and credit of the
U.S. government. This guarantee is limited to
covering the timely principal and interest
payments of the loans underlying the security.
4. The prices of GNMAs, and therefore the value of
a fund that holds them, rise and fall as interest
rates move. When interest rates fall, people with
mortgages usually refinance at lower rates.
5. As they do, more money is returned to the GNMA
pool, and GNMA fund managers are forced to
reinvest at prevailing lower rates.
On the other hand, when interest rates rise, GNMAs
may also decline in value because they hold pools
of mortgages purchased at lower interest rates,
6. and people who took out those mortgages have no
incentive to prepay them because interest rates are
higher.
Therefore GNMAs typically do best when interest
rates are stable. And that’s the environment we’re
likely in today. Pundits believe that before
considering an increase in rates,
7. the Fed will need to see much stronger labor
markets and at least some indication of higher
inflation. This seems unlikely at the moment.
So our current rate environment may well
encourage investors to look more closely at
GNMAs.
It can be hard to maintain a bond component to
your portfolio when the stock market is performing
relatively well, if erratically.
8. But remember, diversification into
bonds, including GNMAs, represents one of the
best remedies for managing assets during a time
of stock market volatility.
