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* Bond trading boom sparked by Fed rate cuts
* Wall Street banks dominate $251 bln daily market
* Top traders eye big bonuses
By Sinead Cruise and Lawrence White
LONDON, Oct 15 (Reuters) - Global banks earned $1 billion
from trading government-backed U.S. mortgage securities in the
first half of 2019, data shows, a fivefold increase on last year
for what industry sources say is the fastest growing revenue
source in investment banking.
The shift this year to a more dovish interest rate policy by
the U.S. Federal Reserve has sparked a surge in investor demand
for packaged-up home loans issued by mortgage agencies Fannie
Mae, Ginnie Mae and Freddie Mac.
Banks that trade these securities, known as agency
residential mortgage-backed securities (RMBS), have profited
both from increased commissions on trading them as well as
holding them on their books as they appreciated in value.
The boom in trading comes just over a decade after the
global financial crisis, caused in part by the collapse in value
of much riskier bonds linked to U.S. home loans that banks
packaged up and sold to unwitting investors.
Agency RMBS are considered far safer and higher quality than
the subprime pools that sowed the seeds of the so-called
subprime mortgage crisis in 2007.
The data from research house Coalition shows global banks
made just $200 million in revenues in agency RMBS in the first
half of 2018, compared with $1 billion this year.
"This is the fastest growing product across markets this
year, for sure," one industry source told Reuters.
"This is probably the first year that the RMBS guys are
looking at some big bonus figures. I think it's going to be good
year," the source said.
WINNERS
JP Morgan, Citi, Goldman Sachs and
Morgan Stanley are seen among the biggest winners, with
Bank of America and Credit Suisse also cashing
in, the source added.
Average daily trading volumes in agency RMBS have risen to
$251 billion in 2019 so far, data from SIFMA shows, an 11%
increase on the same period a year ago.
The earnings boost for the Wall Street giants that dominate
this business is likely to widen the gap with struggling
European rivals, which have seen profits plunge in recent years
amid constant restructuring and sluggish domestic trading
markets.
JP Morgan is likely to make as much as $500 million from
agency RMBS trading in 2019, after ramping up the balance sheet
capacity it allocates to the market to between $20 billion and
$30 billion, the source said.
JPMorgan declined to comment.
The U.S. lender saw a 31% increase in its holdings of all
securities between June 2018 and June 2019, according to a
Reuters calculation from regulatory filings, driven by a 37%
increase in 'available for sale' products such as agency RMBS.
CHASING YIELD
Rate cuts typically drive demand in agency RMBS because they
can change the time frames in which people repay or refinance
the underlying mortgages.
This in turn changes the value of the securities, which
yield-hungry investors seek to profit from.
The window of opportunity for banks to make money in agency
RMBS trading is small and is not entirely without risk.
If the Fed suddenly changes its policy, as it did in 2013 https://www.reuters.com/article/us-usa-fed-2013-timeline/key-events-for-the-fed-in-2013-the-year-of-the-taper-tantrum-idUSKCN1P52A8
when a shift in its practice of buying bonds triggered a
massive spike in U.S. Treasury yields, banks could be saddled
with a hefty inventory of bonds which could plunge in value.
The Fed cut interest rates in July and at its subsequent
September meeting to offset the impact to the U.S. economy from
slowing global growth and the Trump administration's trade war
with China, which has hurt U.S. manufacturing and cooled
business investment.
The next meeting of the Fed's interest rate policy committee
is on Oct. 29-30.
(Reporting by Sinead Cruise and Lawrence White, additional
reporting by Kate Duguid and David Henry in New York; Editing by
Mark Potter)
