CMO Market Update
September 14, 2020
This week will be a month in review with August having come to a close since our last CMO Update two weeks ago.
Spreads and Prepayments
CMO spreads were steady in August, tightening slightly at the beginning of the month but remaining unchanged for the remainder of the period. After experiencing significant widening in March, spreads have unwound all of the movement from the height of the global pandemic and now sit near levels seen at the beginning of 2020.
As investors continue to seek prepay protection, whether it be in traditional MBS or structured product, readers might be interested to see how that story is playing out. The following excerpt comes from our September MBS Prepayment Commentary, released last week, “Prepay speeds remained elevated. Conventional coupons of approximately 3.0 and lower saw speeds increase by more than a token amount and, while higher coupons technically declined, they really remained largely the same.”
The data shows that these prepay protection “stories”, such as low loan balances and 100% NY collateral, are proving worthy of the pay-up associated with these investments. While high dollar prices can deter some, a common comparison is to that of an insurance premium, and investors have been rewarded in recent months, shielding their portfolios from heavy cashflows and lower yielding securities into which they can reinvest.
Monthly Trade Summary
Analytics on CMO trades in August are largely in line with recent months. The average projected yield purchased dropped month-over-month as prepay projections continue to remain elevated in this low rate environment. Additionally, short, front-loaded cashflows fell back in favor after some investors started reaching for yield by extending out on the curve in July. You can see this as the average WAL purchased jumped in July, but during August fell back in line with recent months.
Once again, floating rate investments were meaningful, accounting for nearly a quarter of trades. SOFR based floaters left inventory about as quickly as they arrived, but customers were quite active in bonds linked to other indexes as well.
As previously stated, sequentials fell back in favor and that structure dominated activity by class type as a result. 3 of the 4 previous months, however, showed a fairly even distribution between sequentials and PACs.
Travis Nauert, CFA
Analyst, Investment Strategies
Vining Sparks IBG, LP