June 11, 2018
Fixed-rate MBS underperformed Treasuries this past week, likely influenced by the elevated rate volatility experienced during the past two weeks. 15-year MBS yield spreads ended the week 3bps wider to Treasuries, while 30-year MBS yield spreads widened 4bps.
An unsurprising pickup in prepayment speeds occurred during May. May prepayments get a seasonal push and the day count for this May was one day longer than April. Housing turnover and its seasonal pickup drove prepayments, with interest rates exerting only minor influence on the prepayment pickup. For additional prepayment commentary and charts, please see our May MBS Prepayment Commentary.
There was a modest pickup in MBS activity last week and it was primarily focused on the following:
- 15-year 2.5s – This coupon underperformed the most of any coupon last week, which has been a consistent trend over the past month. The cheapening trend along with the flattening yield curve has resulted in a relatively small pay up over TBA for pools with seasoning between 18 to 36 months. In some cases, investors can potentially receive an outsized reduction in price volatility for a modest trade-off in projected yield. Please see the latest Strategic Insight discussing the current merits of slightly seasoned, below par 15-year MBS.
- 10-Year 2.5s and 3.0s – Has been a consistent choice among investors seeking protection from higher market rates, as these structures provide high-scheduled cash flow regardless of the rate environment.
- Seasoned Relo 15yr 2.5’s and 30yr 3.0’s – Non-TBA pools having various prepayment exceptions, which potentially offer higher turnover.
- FNMA DUS and Freddie K’s – There was modest trading activity this past week due to a shortage of product in the secondary market. The focus in this sector has largely been on the 3- to 7-year part of the curve, with investors seeking locked out cash flow and positive convexity.
- The best activity remained in front sequentials. Most were full coupon or coupons cut by 0.5%.
- A significant portion of last week’s limited activity was in very short average life tranches, call it ~1.2 years on average.
- Par and near floaters saw more traction than usual last week, and it is realistic to expect investors will continue to diversify their variable holdings.
- Portfolio managers continued purchasing short “money market” tranches. A few months ago, most of this paper featured well above market coupons and big premium prices. This is not the case for some recent offerings.
Mortgage Rates and Refinance Activity
- Mortgage rates moved up modestly after declining for two consecutive weeks.
- 15-year mortgage rates increased 10bps to 3.89%, 55bps above the 12-month average of 3.34%.
- 30-year mortgage increased 10bps to 4.46%, 43bps above the 12-month average of 4.03%.
- 15-year mortgage rates have increased 67bps in 2018, while 30-year mortgage rates are up 59bps YTD.
- Mortgage applications for the week ending June 1 rebounded 4.1% as 30-year mortgage rates fell 9 bps to 4.75% (according to the MBA). Purchase applications jumped 4.2% week over week, while refi apps had a rare increase, up 3.8%. On a year over year basis, purchase applications are now flat, while existing home sales are down 1.6% and new home sales are up 11.6%
Michael S. Erhardt, CPA
Senior Vice President
Vining Sparks, IBG
Kevin A. Smith, CFA
Manager, Strategic Analytics
Vining-Sparks IBG LP