CMO Market Update
July 15, 2019
CMO spreads to Treasury yields tightened 5 basis points in the 5-year space and 1-2 basis points for 3-year paper.
In our July MBS Prepay Commentary released last week, it was reiterated that, despite a decline in month-over-month speeds, we are still seeing elevated levels of prepayments. This shouldn’t be a huge surprise as the Yield Curve has dropped roughly 60 basis points year-to-date. As it pertains to CMOs:
- If speeds continue to stay elevated, which looks likely at the moment, trading and/or diversifying into lower coupons could be beneficial.
- We have seen more investors considering “cut-down” coupon (e.g. 3.5 coupon off of 4.0 collateral) to lower the price and risk to underperforming yields.
In case you missed it last week, the June Trade Summary is included below:
June Trade Summary
The belly of the Treasury curve fell 50 basis points during Q2 and although CMO yields held up well to begin the quarter, they finally gave way in the last half of the period. Whereas customers invested in bonds with projected yields around 2.90% to begin the year, they are now slated to earn under 2.50% on purchases today for bonds with a similar duration and average-life profile. For CMOs purchased in June, we saw more activity in PAC-1s than recent months. Historically, we have observed PAC-1 spreads as 5-10 basis points lower than spreads on Sequentials.
- Fixed-rate coupons dominated activity
- Floating-rate investments returned to modest percentage of trades
- Accounted for 24% of trades in May
- Yields purchased declined from 2.75 to 2.44
- Treasurys down ~40bps since May
- CMO spreads have steadily widened in 2019
- Duration remains at 2019 average of 2.5
- WAL in line with previous months
- 52% of trades were PAC-1s
Travis Nauert, CFA
Analyst, Investment Strategies
Vining Sparks IBG, LP