FRM Update

February 1, 2021

Fed Support   

The Federal Reserve’s aggregate mortgage buying last week totaled $36.0bn versus $23.9bn for the previous week.  The weekly amount purchased was the largest since early December. The most heavily purchased securities were 30-year UMBS 2.0s and 1.5s with total volumes of $19.0bn and $3.8bn, respectively.  The Federal Reserve will target up to $59.7bn of MBS from February 1 to February 11.

At the FOMC meeting last week, the Fed left rates, asset purchases, and forward guidance unchanged. In his press conference, Chair Powell reiterated that the Fed would “clearly communicate … well in advance” of when the balance sheet plans might change because of “substantial further progress” towards their goals. The meeting was clearly supportive of MBS pricing as the Fed will continue to grow its holdings of MBS by at least $40bn a month and of Treasurys by at least $80bn a month.

Current Yield Spreads

Yield spreads on current-coupon MBS (15-year 1.5s and 30-year 2.0s) compared to Treasurys with similar duration tightened last week. Nominal spreads on both 15- and 30-year MBS to Treasurys tightened 1 bp to 41 bps and 76 bps, respectively. The spread on higher coupons experienced significantly more tightening as has been the trend for the past few weeks. For example, 30-year 2.5s tightened approximately 11 bps last week, despite the lack of Fed support for this coupon. This suggests that at least some investors are beginning to rotate out of lower coupons in favor of higher coupons.

Trading Activity

The summary below reflects trading activity from the previous week.  Purchase activity was led by UMBS 25-year 1.5s and 15-year 2.0s with prepayment friction.  There was also strong demand in UMBS 20-year 1.5s as investors continue to seek yield and reasonable extension protection.

TBA-Eligible Securities:

Non-Deliverable Securities:

Specified Pools:

Given robust refinance activity,  portfolio managers continue to seek prepay protection to avoid potentially low or negative yields.  Many investors have turned to specified pools (lower loan balances, NY/FL collateral, investor loans) to help partially mitigate faster prepay speeds. The graph below highlights monthly prepayment speeds on different collateral types.

Prepay Friction – 30-Year 2.5s of 2020

Mortgage Rates and Applications

Mortgage rates were relatively stable for the second consecutive week according to the weekly rate survey. The 15-year mortgage rate declined 1 bp to 2.35% and the 30-year rate remained at 2.88%.  The 30-year rate has declined 75 bps since the same time one year ago.

Mortgage applications decreased 4.1% for the week ending January 22, according to data from the Mortgage Bankers Association. The seasonally adjusted purchase index decreased 4.0% from one week earlier while the refinance index fell 5.0%.  The refi index has now declined for two straight weeks but is still 83% higher than last year. According to some estimates, nearly 80% of the conventional market has a refinance incentive of at least 50 bps with sub 3.0% 30-year mortgage rate.

The primary/secondary mortgage spread (average 30-year mortgage rate minus 30-year MBS current coupon) increased 2 bps last week to 1.50%. The spread has narrowed 46 bps since the first week of August and 53 bps since hitting a high of 2.03% in early March, as the mortgage industry has added headcount and increased capacity.  The spread remains elevated at 28 bps above the trailing 5-year average of 1.22%.

Michael S. Erhardt, CPA

Senior Vice President, Investment Strategies

Vining Sparks IBG, LP

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