CMO Market Update
June 10, 2019
CMO spreads to Treasury yields widened once again last week. 2-3 year PACs and Sequentials were 3-5 basis points wider, while 5- and 10-year bonds widened 2-3 basis points.
Earlier this year, spreads for intermediate-term paper broke through highs from recent years, but now spreads for shorter bonds have as well. By our measurements, spreads on 3-year Agency CMOs have not been this wide since late 2016.
In the past, we have mentioned that customers may want to consider “cut-down” coupons when investing in CMOs. This was reiterated in last week’s June MBS Prepayment Commentary:
- “Since many of our investors favor front-cashflow CMOs and, in effect, a front-cashflow tranche magnifies prepay speeds seen on the underlying mortgages, it may be worth considering a “cut-down” coupon (e.g. 3.5 coupon off of 4.0 collateral) to lower the price and risk to underperforming yields.”
For those who missed it last week, below is a snapshot of what we saw our CMO buyers investing in last month.
May Trade Summary
Yield Book analytics on fixed rate CMO investments were steady once again. Thanks to widening spreads, yields have held up well despite the 40 basis point drop in Treasury yields this month. Granted, a substantial part of the move occurred last week at the end of the month.
- Customers invested predominantly in fixed-rate coupons
- Some larger, floating-rate trades were executed as well
- Yields purchased declined from 2.87 to 2.85
- Duration remains at 2.5, its average over previous 4 months
- WAL shortened, hanging in above 3 years
- Sequentials still accounting for greater than 50% of trades
- VADMs and PAC-1s alternating over past few months for 2nd place
- PAC-1 flow has been steadier, averaging 20-30% of trades
- Increased from 18% to 24% this month
Travis Nauert, CFA
Analyst, Investment Strategies
Vining Sparks IBG, LP