March 26, 2018
Yield spreads between new-issue hybrid ARMs and Treasuries were unchanged last week, as the broader bond market moved up in price, sending yields slightly lower across the curve. ARMs outperformed their fixed-rate MBS counterparts, with yield spreads widening on this product approximately 2 to 4 basis points for the week. The recent outperformance has undoubtedly been supported by the lack of supply in the ARMs space. Supply could rebound in April and May, based upon the activity in the current origination cycle.
Last week, activity was primarily focused on the following:
- Short Resets – Lower premiums and the recent increase in LIBOR (see graph below) has contributed to higher yields on these pools. Investors are targeting conventional short resets (6- to 24-MTR) to potentially benefit from further increases in market interest rates. In many cases, current prepayment activity shows the temporarily elevated levels common to bonds nearing their initial reset dates. However, based on historical patterns, prepayment activity generally declines after the bonds reset. Using a vector to model this behavior shows that seasoned short resets can compare favorably to other variable-rate alternatives.
- GN 3/1 2.0s and 2.5s – 3/1 buyers are adding 2.0s at a discount and benefiting from the improvement in pricing for current coupon 2.5s trading just above par.
- GN 5/1 2.5s and 3.0s – 2.5s are trading just below par, while 3.0s are trading near $101-8 and offer slightly more protection in rising rate environments.
Metrics for some commonly traded structures are below:
Michael S. Erhardt, CPA
Senior Vice President
Vining Sparks, IBG