CMO Market Update
May 24, 2021
Beginning with a housekeeping note: while we will release an overall commentary next week, there will be no individual sector updates. The next CMO update will be released on June 7, focusing on the monthly trade summary for May.
Agency CMO spreads to Treasury yields were unchanged week-over-week. Investors, especially depository institutions, remain flush with cash, and one use of those funds continues to be cut-coupon CMOs off GNMA collateral. Portfolio managers are using this product type to provide structural liquidity for the balance sheet, in addition to supporting earnings. Historically, customers active in the CMO space have targeted a 3-4 year average life, and, as discussed in recent monthly trade summaries, Yield Book analytics project CMOs in this part of the curve to yield right around 1.00% or greater, providing a meaningful pickup over cash.
Later this week, we will be updating pricing and analytics on our Client Access portal for May month-end. As we approach the last month of Q2, this is a good opportunity to review positions and gain/loss estimates heading into the second half of 2021. If you do not have access but would like to register, please click here.
In case you missed last week’s Investment Alternatives Matrix, please see the Treasury and CMO sections below.
Monthly Trade Summary
Analytics on April CMO trades exhibited some mean reversion in terms of WAL and Effective Duration after investors extended out notably in March. Customer purchases of fixed-rate CMOs in March are projected to have a base-case WAL of about 5 years. In April, new investments averaged a 3.8-year WAL, which is more in line with historical averages for our depository institution customers. Similarly, effective duration fell to 3.4. But yields were steady month-over-month, with projected yields on April purchases averaging 1.20%.
In terms of product trends, investors continue to seek out discount-priced, low-coupon cuts, and it was the the 1.00% – 1.25% part of the stack that was in high demand during April. There was an increased appetite for traditional and jumbo Ginnie Mae collateral, and for G2SF 3 collateral in particular. Most trades with FNR or FHR issued bonds were 1.0% coupons off FNCI 1.5% collateral.
Activity in floating-rate CMOs has fallen off almost completely in the last two months after a decent run to start the year. Fixed-rate bonds accounted for the overwhelming majority of Agency CMO trades last month. When looking at trades by class type, PACs accounted for more than 50% of trades for the third month in a row. And a meaningful amount of TAC structures traded, accounting for most of the increase in the “Other” category by Class Type.
Travis Nauert, CFA
Analyst, Investment Strategies
Vining Sparks IBG, LP