August 6, 2018
During the past week, yield spreads on current production MBS tightened slightly to both Treasuries and Swaps. Interest rates remained in a relatively narrow range and volatility was subdued, despite a Fed meeting and payroll release. 15-year MBS yield spreads to Treasuries were tighter by 1 to 2 bps, while 30-year MBS spreads moved tighter to Treasuries by 2 to 3 bps.
Flows were steady last week, with investors adding defensive style cash flow structures. Seasoned 15-year 2.5s and 3.0s were the most actively traded structure among depositories. There was also some selling of factored down pools, as the bid side remains relatively strong for odd-lot positions.
The following represents a summary of the activity we observed last week:
- 10-Year 2.5s – Highly seasoned pools
- Seasoned 15-year 2.5s and 3.0s – The flat yield curve and relative value in these coupons has driven investors to this segment. There continues to be a relatively small pay up over TBA for pools with seasoning between 18 to 36 months. In some cases, investors can potentially receive less price volatility and greater stability of cash flows relative to new pools, for a modest trade-off in projected yield. Please see the recent Strategic Insight discussing the current merits of slightly seasoned, below par 15-year MBS.
- 15-Year 3.5s and 4.0s – New or recently issued pools
- 20-Year 3.0s and 3.5s – Seasoned pools with WAMs ranging from 190-200, a proxy for new 15-year MBS.
- Non-TBA pools including seasoned HLTV 20yr 3.0’s and Relocation 15yr 2.5’s.
- 30-Year 4.0s – New production
- 30-Year 5.0s – Investors have focused on new issue pools with higher coupons. These structures offer monthly cash flow, a moderate average life, and a meaningful spread to Treasuries. The 12-month total return remains positive, even under a +100 bps scenario. FN 5.0s have outperformed all other coupons in the 30-year stack during the past week.
Mortgage Rates and Refinance Activity
- Benchmark mortgage rates were relatively stable for the week ending 8/3.
- 15-year mortgage rates remained at 3.86%, 40bps above the 12-month average of 3.46%, and 14bps above the YTD average of 3.72%.
- 30-year mortgage rates also increased by 1bp to 4.45%, 34bps above the 12-month average of 4.11%, and 14bps above the YTD average.
- 15-year mortgage rates have increased 66bps in 2018, while 30-year mortgage rates are up 60bps YTD.
Mortgage Applications: Mortgage applications for the week ending July 27 declined 2.5% from the previous week and 12.0% from one year ago. Purchase applications dropped 3.0% and refi applications declined 2.0% for the week. Purchase applications have now decreased for the third week and the purchase index was at its lowest level in a month as low housing inventory and rising home prices continue to weigh on demand.
Pending Home Sales Offer Glimmer of Positivity in a Recent Run of Unspectacular Housing Data: Pending home sales, counted when contracts on existing homes are signed, rose in June for the first time since March. Total pending sales, a leading indicator for actual existing sales, rose 0.9% last month and offered a glimmer of hope for some stability in existing sales in the months ahead. Contracts signed in the Northeast and Midwest rose at a slower pace than in May but pending sales in the South, the largest region by volume, rebounded 1.1% from the prior month’s 3.5% decline. Activity in the West was relatively steady. While the monthly improvement certainly provides a positive data point, less sanguine longer-term trends show how disappointing overall activity has been in recent years. In addition, key headwinds remain that should make a more lasting turnaround tougher to achieve. Freddie Mac data showed the average 30-year mortgage rate offered to borrowers remains near the top of a seven-year range, 4.54% for the week ended July 26, and June’s existing sales report from last week showed prices at new records.
Construction Spending Falls on Weak Public Educational, Multi-Family Residential, and Non-Residential Commercial Spending: Construction spending in June disappointed expectations, falling 1.1% on a big 3.5% decline in public spending, a 0.5% decline in residential construction, and a 0.3% drop in non-residential construction. While the June data disappointed, the April and May data were revised notably higher meaning the initial 2Q GDP estimates should remain reasonably accurate. Also positive, manufacturing-sector construction rose a hearty 1.2% and home improvement spending increased 0.1%. On the negative side, commercial construction saw an unusually weak month dropping 2.2%, multi-family residential activity fell 2.8% and continued to hover around a 0.0% YoY growth rate, and public educational construction fell off a cliff (-11.0% MoM). More broadly, while the overall trends for most construction categories remain positive, the June results do point to a weaker pace of activity heading into 3Q.
Michael S. Erhardt, CPA
Senior Vice President
Vining Sparks, IBG