Do it yourself

Given my view that the yield curve is no longer a strong leading indicator, I prefer to use a mix of indicators to assess the likely direction of the markets. Mortgage rates, credit growth, credit terms, repo outstandings and the size of the central bank’s balance sheet are the most prominent ingredients in the mix I like to use.

For example, in the context of the US, Mortgage rates are a close pulse on borrowing costs, consumer behavior, and economic health, less abstracted than the yield curve. In the U.S., the 30-year fixed mortgage rate tracks loosely with the 10-year Treasury yield—historically about 1.5 to 2 percentage points higher—but it’s more than just a derivative. It folds in lender risk appetite, housing market dynamics, and Fed policy fallout in a way that hits Main Street directly.

Presently, mortgage rates are climbing—30-year fixed is around 6.8%, up from 6.4% in late March, shadowing that recent 10-year yield jump to 4.5%. That’s despite recession odds rising, which, one may assume, would pull rates down as safety bets pile into bonds. Instead, it’s signaling stubborn inflation expectations (CPI still above 3%) and maybe some lender jitters about defaults if the economy wobbles. Post-2008, mortgage rates have also been a better tell on how QE and rate hikes filter through—when the Fed bought $2.5 trillion in mortgage-backed securities, rates stayed low even as Treasuries twitched. The curve didn’t catch that nuance.

Mortgage trends usually sidestep central bank distortion. The Fed can pivot Treasury yields, but mortgage rates reflect a messier mix—banks’ funding costs, housing supply, wage growth. In 2022, the curve inverted, but mortgage rates soared from 3% to 7% clearly indicating “tightening ahead”.

Mortgage rates provide a frontline view of credit conditions and consumer stress—80% of U.S. household debt is tied to mortgages—without the Fed’s thumb on the scale.

Credit growth, credit terms and repo outstandings pair well with mortgage rates to assess the genuineness of demand supply equilibrium of the credit market. Together, they cut through the noise of central bank meddling and give a clearer view of whether demand and supply are truly balancing or just riding artificial waves.

Credit growth is the engine’s RPM. It tells you how much new borrowing—household, corporate, or government—is fueling the system. In the U.S., total credit to the private sector grew at a sluggish 2.5% annualized rate in Q1 2025, down from 4% in 2023, as per Fed data. That’s tepid, especially with mortgage rates at 6.8% crimping home loans—mortgage debt growth is barely 1% year-over-year. Meanwhile, consumer credit (credit cards, auto loans) is up 5%, hinting that people are leaning on short-term debt as housing gets pricier. If credit growth stalls while mortgage rates rise, it’s a sign demand’s weakening—banks aren’t lending, or borrowers aren’t biting.

Credit terms are the fine print—how tight or loose lenders are with the purse strings. Are banks demanding higher credit scores, bigger down payments, or jacking up spreads on corporate loans? Right now, the Fed’s Senior Loan Officer Survey (Q4 2024) shows tightening standards on commercial loans—net 15% of banks raised hurdles—while mortgage terms eased slightly, with down payment requirements dipping to 10% on average from 12% in 2023. High-yield bond spreads are at 350 basis points over Treasuries, up from 300 in January, signaling risk aversion. If terms toughen as mortgage rates climb, it’s a red flag—supply’s there, but lenders don’t trust demand to hold up.

Repo outstandings are the plumbing’s pressure gauge. The repurchase market shows how much short-term cash banks and funds need, and how willing they are to leverage. As of April 2025, U.S. repo volumes are hovering at $2.8 trillion daily, per NY Fed data, up 10% from last year. In a “genuine” equilibrium, repo would hum along smoothly, not swell like this while credit growth lags.

Mortgage rates at 6.8% look less alarming if credit’s flowing, terms are loose, and repo’s calm—demand and supply are moving in tandem. But slow credit growth, tightening terms, and repo pressure say the market’s strained—supply’s there, but demand’s shaky, and liquidity is a crutch. Central banks can twist yields all they want; these metrics show what’s really moving.

Central bank’s (CB) balance sheet is another key watchable for me. If CB takes too much paper on its own balance sheet, it indicates an attempt to unfairly influence the bond market equilibrium.

CB’s balance sheet is a massive lever they can pull to sway markets, and when it swells too much, it’s a flashing sign they’re trying to muscle the bond market into line rather than letting it find its own footing. As of April 9, 2025, the Fed’s balance sheet sits at about $7 trillion, down from its $8.9 trillion peak in mid-2022 but still a hefty chunk—roughly 25% of U.S. GDP.

Fed loading up on paper—mostly Treasuries ($4.3 trillion) and mortgage-backed securities ($2.3 trillion) as of late 2024—is a deliberate play to augment liquidity or cap yields.

In a free market, bond yields would reflect investor sentiment—fear of inflation, growth bets, default risks. But when the Fed gobbles up $95 billion a month or steps in with “emergency QE” like some predict if Treasury markets seize up again, it definitely distorts the equilibrium.

I use the classical 2:1 debt equity parameter used to benchmark the corporate balance sheets, to assess the central bank’s balance sheet also. I think M2 (Money Supply or Central Bank’s liabilities) should not be more than 2x of the assets on its balance sheet.

For context, in the US M2 money supply is close to US$21 trillion, versus the Fed’s assets of US$7trillion. That is a 3:1 debt equity ratio for the Fed. This implies excess liquidity from years of bond-buying ($4.3 trillion Treasuries, $2.3 trillion MBS on the Fed’s books). Pre-GFC M2 to Fed balance sheet ratio reached 8:1. Banks were churning out loans—subprime mortgages, leveraged buyouts, etc. —while the Fed’s balance sheet stayed lean, mostly short-term Treasuries. Reserves were minimal ($10 billion or so), and the fractional reserve system let M2 balloon. When the housing bubble popped, that 8:1 leverage meant there was no cushion—credit froze, banks choked, and the GFC happened.