CMO issuance fell in June to $42 billion. This is the second consecutive month this has happened, according to a recent Lehman Brothers report. By contrast, supply in May reached $50 billion and totaled $70 billion in April. The dip in issuance is no surprise, said Lehman, because the low mortgage rates kept banks on the sidelines.
CMO issuance has traditionally been spurred by par-priced tranche buyers. However, IO buyers have now become the principal drivers of CMO deals. This is due to the deluge of structured IO supply, which averages $7.5 billion 5.5% IO equivalents each month, as well as issuer-related prepayment concerns. The end result has been an overall improvement in the convexity of collateral, shifting toward lower loan balances, higher SATOs and less exposure to faster prepaying issuers.
Among the more apparent trends is the steep drop in exposure to faster prepaying issuers in the last couple of months. The shift to better convexity collateral is even starker in premium deals. The concentration in faster issuers went down considerably to less than 5% in April and May. Average loan balances of premiums also dropped to roughly $20,000-$25,000. Lastly, Alt-A (premium origination) pools comprised a much bigger percentage of the premium CMO issuance. The average spread at origination (or SATO), which indicates the credit of the underlying borrowers, has gone up by approximately 100 basis points in the last 3 months.
Meanwhile, Deutsche Bank also noted in recent research that CMO production reached its peak in the first quarter of this year and has decreased considerably in the second quarter. The firm said that his is an example of how the higher mortgage dollar price, and thus prepayments, adversely affecting the CMO market. The hard thing for CMO structuring desks is what to do with all of the excess coupon, effectively IO.
In other issuance trends, Lehman said that supply in 15-year deals has gone up back to levels seen earlier in 2003, comprising above 30% of total issuance. Across the coupon spectrum, the historically low rates were the reason for 30-year 5s and 15-year 4.5s making up 30% of overall issuance.