ARM Update

September 9, 2019

Last week, demand for new-issue hybrid ARMs improved, which resulted in yield spreads to Treasurys tightening 2 to 3 basis points.  Spread tightening found in the hybrid ARM sector was mirrored in the fixed-rate MBS sector as 15-year and 30-year fixed-rates tightened 2 and 6 bps, respectively.  On the contrary, the broader bond market moved down in price, sending yields higher across the curve.  Last week’s data should have little implication for this month’s US Federal Reserve meeting, as policymaker commentary over the summer suggests an additional rate cut is likely, not least given ongoing trade-related uncertainty.  We continue to see relative value in longer-reset 7/1s and 10/1s as they remain approximately 47 and 45 bps wider, respectively, compared to levels in early March.

The following chart reflects the week over week change in Z-spreads for ARMs.  Z-spreads were mixed for GNMA, FNMA and FHLMC products.

New issuance for August totaled 507.6mm versus a higher level of 748mm in July.  Supply was split amongst Fannie Mae (175mm), Freddie Mac (264.6mm), and Ginnie Mae (68mm).  Supply was focused in 7/1s (223.7mm) with 5/1s and 10/1s issued in similar amounts of 137.2mm and 140mm, respectively.  ARM gross issuance remains at multi-year lows as it came under 1 billion for the fourth consecutive month.

Hybrid ARM issuance remains quite low.  As of August, hybrid ARM issuance represented ~ 0.65% of overall MBS issuance.  The ARM sector continues to be plagued with low supply and minimal new issuance.

Prepayments changed trend as August prepayments for hybrid ARMs were mixed.  September-released factors indicated that August ARM prepayments decreased 1.25% to 2.46% for Ginnie Mae and Fannie Mae, respectively, and increased 0.37% for Freddie Mac.  In aggregate, Fannie ARM speeds decreased 0.7 CPR to 27.8, Freddie rose 0.1 CPR to 27.2, and Ginnie decreased 0.4 CPR to 31.6.

Shorter-reset LIBOR-based Fannie 3/1s increased 4.8 CPR to 29.1 and 5/1s decreased 2.2 CPR to 30.5.  Longer-reset 7/1s slightly decreased 0.7 CPR to 28.8 and 10/1s increased 1.2 CPR to 22.3.  In the Ginnie sector, Treasury-based 3/1s, 5/1s, and 7/1s paid 31.4 CPR (no change), 31.6 CPR (-2.47%), and 41.4 CPR (+7.6%), respectively.

Last week, ARM activity was spread across a variety of lists and primarily focused on the following:

On July 11th, the Alternative Reference Rates Committee (ARRC) released a white paper detailing how an average of the Secured Overnight Financing Rate (SOFR) can be used in newly-issued ARMs in a structure that is comparable to today’s existing ARM loans.  The white paper shows how SOFR can be used to develop products that are built on a robust reference rate that is grounded in market transaction.  Here’s an overview of the ARRC’s proposed models of SOFR ARMs:

The desk continues to look to bid odd-lot positions for both conventionals and Ginnies for clean-up.  The disposition of odd-lot positions can result in enhanced transactional liquidity and higher earnings.  Also, this is an opportunistic time to consider eliminating smaller line items that are subject to standard safekeeping and accounting fees that are more palatable for larger block sizes.

Ricky Brillard, CPA

Senior Vice President, Investment Strategies

Vining Sparks IBG, LP

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