CMO Market Update
March 21, 2022
Treasury yields once again pushed higher last week, with 2- through 10-year benchmark bonds increasing 16-22 basis points in yield depending on maturity. Activity was relatively light with many market participants waiting on the Fed’s rate decision and taking time to process implications. The 2s to 10s spread remains compressed at 21 basis points as of this writing.
As discussed in recent weeks, CMOs look attractive from a yield perspective. Nominal spreads have held up well in the face of soaring Treasury yields, and with mortgage rates rising off historic lows, underlying borrowers have less incentive to prepay or refinance loans. So a combination of price/yield action and underlying fundamentals are leading to attractive projected yields in this space.
The analytics from last month’s CMO trade summary (provided below) showed another leg up in the average projected yield purchased by customers in February, breaking above 2.00% for the first time in 2 years. As we approach the end of the first quarter, it appears March will be the fourth consecutive month in which projected yields increase on Agency CMO trades.
Monthly Trade Summary
As anticipated, the average projected yield on February CMO purchases breached the 2.0% threshold. Naturally, just as we have reached this psychological barrier, markets have taken a risk-off tone. There’s no way of knowing if we have reached a local top in terms of yields, so those that have remained active have done well to add to the portfolio at these levels.
Other risk/return metrics were in line month over month. In terms of structure, it was nearly an even split between Sequentials and PACs traded. This has oscillated back and forth for the last few months. As is usually the case, fixed-rate coupons dominated activity, although there was a slight uptick in floating-rate activity month over month.
The average projected WAL shortened nearly half a year from January to February. It will be interesting to see what this measure looks like for March purchases given the risk-off sentiment that has taken hold.
Travis Nauert, CFA
Analyst, Investment Strategies