September 4, 2018
SBA activity is expected to be focused on the DCPC auction Thursday, which includes 10yr, 20yr and 25yr terms. Investors have also remained active in floating rate equipment pools offered at par and premium pricing as yields on SBA floating rate pools moved higher over the last month and are likely to move higher if the Fed raises rates later this month.
The SBA has announced and the Federal Register now reflects a slight tightening of the maturity bands for new SBA pools issued subsequent to October 1st. The shortest maturity of any loan in a pool issued subsequent to October 1st will now need to be at least 95% of the longest, adjusted upward from the current 94%. This brings cash flows on pools in closer alignment with cash flows on the underlying loans, a stated objective of the SBA. In essence, this brings pools one small step closer to being true pass-throughs. The change has zero effect on any existing pools.
Floating-Rate 7(a) Pools
- Investors have remained active in floating rate equipment pools offered at par and also those with premium pricing.
- Ten-year WAM equipment-loan pools should attract investor interest due to the cash flows from shorter-amortization schedules. Many equipment-loan pools offer favorable yields and margins using recent market prices and realistically vectored prepayment speeds.
- Pricing levels on SBA floating pools with uncapped quarterly resets indexed to Prime offer attractive yield opportunities versus interest bearing cash and fed funds returns. Yields ranging from approximately 2.30% on par pools and 2.50% or higher on premium pools are currently available.
- The fed funds futures market is currently pricing in a 96% chance of a 25bps hike by the Fed in late September. With a 25bps hike in fed funds, floating rate SBA equipment pools would yield 2.72% using the current prepayment vector; an equivalent yield to a 5-year Treasury bond (2.75% yield) combined with the floating rate benefits of significantly lower price volatility and effective duration.
Fixed-Rate (DCPC and SBIC) Pools
- The DCPC auction this Thursday is expected to include 10yr, 20yr and 25yr terms.
- Demand for DCPCs and SBICs (SBIC semi-annual auction later this month) remains strong as they offer superior convexity profiles to most residential MBS alternatives, while offering comparable yields and spreads.
- The 64bp spread for the twenty-year DCPC auction in August tightened 7bps compared to July, but yield spreads versus Treasuries remain at the wide end of their ranges for the last several auctions.
- Similar to the spread tightening in the 20yr auction, the 25yr auction resulted in yields spreads tightening 8bps to 77bps versus Treasuries.
- Pool issuance in the August auction for the 20yr and 25yr terms increased over the July auction.
Government Guaranteed Loan Trading
- Government-guaranteed USDA agricultural loans and SBA loans traded to financial institutions. As has been the case for some time, supply and not demand limits loan trading volumes.
August SBA Prepayment Speeds
Prepayment speeds for equipment loan pools slowed and real estate pools sped up this month, each reversing their direction from July. Equipment loan pools fell below their six-month moving average and real estate pools ascended above theirs. Seasoning continues to overwhelm other pool characteristics and the path of speeds as pools season remains consistent with previous months. While the direction of the monthly aberration may fit well with narratives based on the recent course of the economy and interest rates, statistical variations and technical factors probably attributed more to the one-month changes than a flatter yield curve or economic growth trends and the moving averages provide a truer representation of prepayment trends. For additional charts and SBA prepayment commentary, click on the link.
Built by grouping buckets based on twelve-month intervals counting backward from today, the following historical graphs depict vectors based on the eleven months of prepayment history subsequent to procedural changes related to distributions of principal implemented last October.
Dan Stimpson, CPA
Senior Vice President