Prepay Commentary

May 2020 MBS Prepayment Speeds

May factors were released last evening (reflecting activity in April), and prepayment speeds are now available. Last month I wrote “there is a compelling case to be made for speeds at least remaining elevated in May as well”. Not only did they remain elevated, they generally increased across the board. Fannie and Freddie saw broad increases. Ginnie Mae was mixed. Although I would characterize their prepayments as flat to increasing for the month on most vintages. If you are wondering how prepayments increased given everything that is going on, below is a table summarizing the timing of prepayments. As you can see, April activity still captured much of the time frame before social distancing and massive unemployment figures began to rear their head.

I would be surprised if prepayments are not slower in next month’s report. The reason why is because March 15 through April 15 was a particularly rough stretch with volatility not seen in many years (if ever). The Fed cut overnight rates by 100bps on a Sunday, announced quantitative easing, then announced unlimited quantitative easing, added a laundry list of liquidity facilities, the CARES Act was passed, and the now-ubiquitous Paycheck Protection Program (PPP) was launched. Decreased housing turnover, social distancing, job losses, qualifying for a mortgage, and forbearance all should pressure prepayments down. We will know in about thirty days.

Food for Thought – Primary/Secondary Spread (And Why You Care)

I included the average Primary/Secondary (P/S) spread in the table above for each given period. The P/S spread is essentially the difference between the actual mortgage rate and the “par” coupon rate. For example, if a lender could make a 30-year mortgage at a rate of 4.50% and the par coupon rate is 3.00%, then the primary/secondary spread would be 1.50%.

Why do I bring this up now? Currently, the Primary/Secondary spread is historically high, for a multitude of reasons including low absolute yield levels and lenders effectively rationing their refinancing bandwidth. Why do you care? If the P/S spread returns to a more “normal” level it would portend lower mortgage rates and hence more borrowers would be “in the money” to refinance their mortgages.

Fed Purchasing MBS (Potential Trade Opportunity)

Since our last publication, the Fed has both increased, then subsequently decreased, their purchases of MBS as spreads skyrocketed in March. The Fed has certainly been very successful in driving up prices and ratcheting down spreads. We have seen a number of investors consider selling TBA-eligible MBS holdings (what the Fed is purchasing) and deploying funds elsewhere on their balance sheet (PPP loans, for example) and/or shifting sectors (municipal bonds is the most prevalent).

Fed purchases have caused prices to increase and spreads to tighten. Here are a couple examples.

2019 Production 30-Year 2.5 MBS have increased in price by approximately 4 points (from $100 to $104) from lows in mid-March.

2019 Production 15-Year 2.0 MBS have increased in price by approximately 3.5 points (from $99.5 to $103) from lows in mid-March.

Quick Forbearance Update

Last month, we wrote a little blurb on the topic of mortgage forbearances and servicers, especially the stress this may put on them. The FHFA has been busy since then.

On April 20^th, the FHFA announced mortgage servicers would have “no further obligation” to advance scheduled payments after four monthly payments are missed.
On April 21^st, FHFA announced that FN/FH could purchase recently made loans currently in forbearance.
On April 26^th, FHFA clarified forbearance did not require a lump sum payment at the end of the forbearance period.

The biggest surprise to me out of all of this was that Freddie servicers are only required to advance interest (Freddie covers the principal) while Fannie servicers are required to advance both principal and interest.

Mortgage Rates – Freddie Mac Primary Mortgage Market Survey

What We’re Reading

WSJ: Why Home Prices Are Rising During the Pandemic

“The housing market has been undersupplied for years. During the pandemic it may get worse. There were 1.5 million units for sale at the end of March, NAR said, down 10.2% from a year earlier. Homeowners are waiting to list their houses, real-estate agents say, because they have decided not to move or they are worried about letting buyers into their homes during a pandemic.”

Bloomberg: Mortgage Chaos Threatens to Worsen Once It’s Time for Repayments

“Industry executives say Fannie Mae, Freddie Mac and their regulator are attempting to unveil a program in coming weeks that could alleviate many of the problems.”

Prepayment Speeds

Notables – Excludes vintages of marginal size