What causes GNMAs to fall in value?

Q: I don't understand the logic that causes GNMAs to go down in value if the government starts buying current distressed mortgage loans. I am retired and own substantial GNMAs in a fund. I would appreciate it if you would explain the logic further.

A:A GNMA fund owns a "pool" of mortgages. And these aren't the crazy ones; they're government guaranteed. So I don't worry about defaults impacting the value. But when interest rates rise, the "market value" of your shares in this fund will fall -- just as with all other bonds.

OK, so interest rates are FALLING right now, at least the Fed is trying to push them down. But when the rest of the world starts looking at all this "liquidity" the Fed is creating, the longer term rates (10-year rates) set in the bond market will start to rise. You're already seeing fears of inflation in the gold, commodity, oil markets etc. When those fears hit the Treasury bond market -- when foreigners no longer want to invest for 10 years at low rates because they fear the dollars they get back will be worth far less -- then rates will rise, in spite of the Fed. And then share prices of your GNMA fund will fall.

Terry Savage is a registered investment advisor and the author of the newly published The Savage Number: How Much Money Do You Need To Retire? (256 pages, Wiley, $24.95).