Despite the 10-year Treasury moving towards 4%, mortgages experienced strong buying throughout the week from real money investors - overseas, money managers, insurance companies - focused primarily in 5s and 5.5s. In addition, there was some early month-end buying ahead of the Memorial Day break. Lehman Brothers expects its MBS index to extend 0.10 years, on par with a 12-month average extension of 0.10 years and up from an average May extension of 0.09 years. Meanwhile, servicer participation was minimal and originator selling remained tame at its $1 billion per day average. Supply, however, is mostly in 5s at this time.
The tone in the market was much improved last week with the credit sector holding stable to better, and vol still relatively low. In addition, technicals are favorable, with limited supply while investors are sitting on plenty of idle cash. Longer term, the outlook for mortgages is looking less supportive. In fact, Lehman analysts describe the longer-term prospects for mortgages as "grim" due to full valuations, limited participation from the GSEs, and potential slowdown in the housing market. JPMorgan Securities also anticipates that over the next five to six months, mortgage OAS' will drift wider.