February 12, 2018
Yield spreads on new-issue hybrid ARMs to Treasuries were stable last week, while fixed- rate MBS widened out 4 to 7 basis points. This continued outperformance by ARMs likely represents the lack of supply, relative value versus MBS (see table below), investor preference for lower duration, and the potential for better returns in higher rate scenarios compared to other mortgage-related alternatives.
Activity in the ARMs space was robust last week and was primarily focused on the following:
- New issue conventional 7/1s (compare favorably to 10- to 15-year MBS in terms of yield, price volatility, OAS, and total return)
- GN 3/1 2.0s and 2.5s
- GN 5/1 2.5s (prices have declined to par, eliminating prepayment risk)
- Odd lots (there is a strong bid for smaller block sizes, which provides the opportunity for clean-up trades, for loan funding, and/or for portfolio repositioning)
For January, ARM prepayments slowed for the third consecutive month, matching the slowest speeds experienced since February 2017. In large part, new issue speeds have been relatively stable, and lower dollar prices have largely reduced concerns about prepayments.
In aggregate, FNMA ARM speeds were down 0.7CPR to 18.8CPR (3.6% decrease), while FHLMC speeds declined 1.8CPR to 17.5CPR (9.3% decrease). LIBOR-based Fannie 5/1s held firm at 23.1CPR, 7/1s declined 0.9CPR to 16.2CPR, and 10/1s fell 0.3CPR to 13.1CPR. Prepayments for LIBOR-based Freddie securities were slightly higher as 5/1s, 7/1s, and 10/1s paid 23.4CPR (1.5CPR), 14.6 CPR (1.2CPR), and 10.6CPR (1.3CPR), respectively.
Metrics for some commonly traded structures are below:
Michael S. Erhardt, CPA
Senior Vice President
Vining Sparks, IBG