CMO Market Update
November 9, 2020
Spreads to Treasury yields for fixed-rate agency CMOs tighened 2 basis points last week. Spreads for floating-rate bonds were unchanged.
As shown in the graph below, spreads for fixed-rate CMOs have reached or extended their lows for the year. Depending on maturity and structure, investors last saw CMO spreads at these levels in January and February of this year, before the significant widening that occurred in the wake of the pandemic.
As has been discussed week after week, bonds with any kind of prepay friction have been in high demand. When it comes to the collateral stories such as low-loan-balance pools (250k Max. for example) or 100% NY, this often involves taking on some kind of premium risk. Some customers have expressed an aversion to premium risk lately. Investors in this boat can focus on low coupon cuts to lower the dollar price while still aiming to shield the portfolio from prepayments.
As discussed in the Monthly Trade Summary below, the Trade Desk continues to facilitate meaningful activity when it comes to floating-rate bonds.
Monthly pricing and analytics have been updated for October month-end on our Client Access portal (login required). For those with access, this will give you a chance to review updated gain/loss estimates as year-end preparations are underway. If you do not have access, but would like to register, please click here.
For those who missed it last week, the October Monthly Trade Summary is below.
Monthly Trade Summary
A couple factors are driving changes in analytics for CMO trades in October. First and foremost, Yield Book implemented a model update last week and, broadly speaking, forecasted prepayment speeds are slower than previously projected, but remain elevated in general. This modeling change coupled with investors extending out on the curve has lead to a longer WAL and a higher average yield.
As previously mentioned, customers were active again in October with respect to floating-rate bonds. This month, they accounted for close to a third of trades at 28%. The average yield on these floating-rate purchases was 0.38%, with most coupons indexed to SOFR and 1-month LIBOR.
Looking at trades by class type, Sequentials lead the way again with 67% of trades. PACs accounted for 26% of trades, the highest mark since July.
Please see the table below for additional detail.
Travis Nauert, CFA
Analyst, Investment Strategies
Vining Sparks IBG, LP