Why mortgage bonds are set to deteriorate, and possibly hit the whole market, according to this Wall Street expert

A flattening Treasury yield curve — where long-term rates fall closer to short-term rates — compresses the extra yield investors earn for holding longer-dated debt. According to Harley Bassman, that dynamic poses a particular problem for mortgage-backed securities (MBS), the bundled home loans that trade as bonds.

The reason lies in how mortgages behave. When rates decline, homeowners tend to refinance, returning principal to MBS investors sooner than expected — often precisely when reinvesting at higher yields is difficult. When rates rise, the opposite occurs: refinancing slows and the bonds' duration extends. This asymmetry means MBS investors may receive less compensation for the interest-rate risk they carry, especially as the curve flattens.

For markets broadly, MBS are widely held by banks, insurers, and funds, so sustained weakness can ripple beyond housing finance. What to watch: the shape of the yield curve, refinancing activity, and the spread between MBS yields and comparable Treasuries. Those signals help indicate whether pressure on the sector is contained or broadening.