In a recent report, Barclays Capital analysts talked about 22 WALA FNCI 4.5 as a security that has seasoning "with a twist." This is in light of mortgage investors concerning themselves about the implications of seasoning for prepayment speeds on MBS collateral.
Analysts said that seasoning often leads to faster speeds in discount MBS. This causes premium accretion, which is the reason why investors pay up for seasoned pools over TBA. However, that is only half the story in deep discount bonds, analysts said. Seasoned discounts are shorter compared to TBA, a fact that can be an extremely valuable source of return - and one that many investors actually overlook. Seasoned (22 WALA) FNCI 4.5 pools fall into this category and at current pay-ups, they are extremely attractive versus TBA, analysts stated.
FN 735315, FN 735236 and FN 357695 are three seasoned, and very similar, 4.5% 15-year pools that analysts cited. These three are all 22 WALA, their WACs range from 5.01% to 5.08%, and each commands a two-tick payup over TBA. In the report, analysts compared them with the 4.5% 15-year TBA deliverable, which they believe is 11 WALA with a WAC of 4.98%. For those wedded to OAS models, the attractiveness of these pools is obvious. They pick nine to 10 basis points in OAS over the TBA and have shorter average lives. Furthermore, their theoretical pay-ups are between 11 ticks and 13 ticks, which is a far cry from the just two ticks of market payup, although specified pools rarely trade near their theoretical payups.
As a result, analysts looked for more intuitive methods to make their case. One way was to look at the seasoning ramp. Speeds plateau at around 8.5 CPR in the 18 WALA area, said analysts, while 11 WALA pools (which are TBA deliverable) are paying at 6 CPR. Assuming the 2 CPR advantage, the 22 WALA offers a two-tick carry advantage, which is close to the market payup. Another way to look at the advantage of the seasoned bond is a yield analysis. In this method, analysts price the seasoned and TBA bonds at the same yield, but different CPRs because after all, "if the seasoned bonds are similar to TBA in most respects, why should the yield be different?" Under this assumption, the even-yield payup turns out to be five ticks for the seasoned bonds - which is greater than the two-tick market payup.
Analysts then concluded that the big risk when buying any specified pool is that the dollar roll in the coupon might go special. But considering that this coupon is a deep discount, the chances of that happening are low. Furthermore, with the even-yield payup analysis suggesting that the seasoned pools are two to three ticks cheap, this seems to be a risk well worth taking, they said.
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