CMO Market Update

July 26, 2021

Last week’s CMO update discussed how the recent decline in rates could lead to a 1.00% yield becoming less attainable for bonds with a 3-5 year WAL, the portion of the curve in which our customers typically traffic. Our weekly Investment Alternatives Matrix was released the following day (TSY and CMO sections shown below), with Yield Book analytics providing support for this outlook. As rates have dropped, prices and projected prepayment speeds have increased. Of course, it is difficult to speak in generalities as coupon, collateral, and structure will affect projections meaningfully, but even a cursory glance reveals that a 1.00% base case yield wouldn’t be so bad after all given recent market movements.

However, as has been detailed throughout the year, portfolio managers have done well to gravitate towards low-coupon cuts given the current rate environment. This has been an effective approach to providing structural liquidity for the balance sheet through the portfolio, while also earning an attractive spread to Treasury yields compared to other sectors.

Next week’s update will focus on the monthly trade summary for July. It will be interesting to see what the statistics show regarding investor behavior and extension. As rates have retreated, an investor targeting a given yield would most likely need a longer bond compared to just a couple weeks ago. We saw investors extend out notably in March, the same month in which average projected yields for newly purchased CMOs peaked this year. Given the risks to depository institutions’ balance sheets at current or lower rates, one might expect more defensive positioning with recent purchases.

Pricing will be updated this week on our client access portal for July month-end. For those with access, this will be your first opportunity to view updated analytics and gain/loss estimates. If you are not registered but would like to request access, please click here.

Travis Nauert, CFA

Analyst, Investment Strategies

Vining Sparks IBG, LP