February 4, 2019
Yield spreads for hybrid ARMs to Treasuries were stable for the week, despite a bond market rally that led to Treasury yields falling across the curve. ARMs underperformed their 30-year fixed-rate MBS counterpart, with yield spreads tightening on this product approximately 2 basis points for the week. Faster prepayments will be the main risk to the ARM sector going forward, but they should have a minimal impact with the majority of recent issuance still trading in the $101 – $102 range.
Post resets have been plagued by fast prepayments as borrowers react to their mortgage rate increasing. However, 12-month LIBOR has stabilized over the past three months and actually declined 18 basis points since November 9th (see below). Borrowers resetting this spring will face significant rate increases based on lower index rates a year ago, but if 12-month LIBOR continues to stabilize, the borrowers resetting this summer will see lower rate increases than in years past and should begin to exhibit burnout in prepayments.
Last week, ARM activity was spread across a variety of lists and primarily focused on the following:
- Seasoned Ginnie 5/1 3s with ~ 4 to 5 years to reset traded with modest premium exposure.
- Seasoned, lower coupon (~ 3.5%) Ginnie 5/1s with approximately 8 months to roll traded at a moderate premium ($102+).
- Post reset Fannie 5/1s with ~5% WACs traded at a moderate premium ($101+).
- New issue Freddie Giant 10/1s with ~4% WACs traded at a moderate premium ($101+).
The following chart reflects the week over week change in LIBOR option-adjusted spreads for ARMs. With the exception of some short-reset conventional bonds, OAS widened for GNMA, FNMA, and FHLMC.
Ricky Brillard, CPA
Senior Vice President, Investment Strategies
Vining Sparks IBG, LP