With the U.S. mortgage-backed securities sector on course to turn in one of its weakest performances in a decade, Wall Street pros in that sector are wondering if the drought of new issues could translate into personnel layoffs and bonus reductions.
All but one of the top 10 U.S. MBS underwriters this year has experienced serious contractions in new issuance underwriting volume, including Citigroup Global Markets, Bear Stearns and Morgan Stanley. The exception is Deutsche Bank Securities, which has risen from 14th place at this point last year to its current 10th-ranked position. Some of the sharpest tumbles are by Goldman Sachs, whose underwriting volume has fallen 71% compared with last year, and Lehman Brothers, whose volume is down 35%.
It's a sectorwide slump. As of June 7, $276.8 billion in new U.S. MBS issues had priced so far this year, down 40% from the $463 billion posted at that point last year. May was a particularly grisly month, with only $32.4 billion in 57 new issues, compared with $82.7 billion in 119 issues in May 2003. It was the lowest monthly total in more than two years, according to Thomson Financial.
New issuance of CMOs "is not going up any time soon," said David Martin, co-head of mortgages at UBS, the sector's top-ranked bank. UBS, like its competitors, has been hit with major new issuance declines. So far this year, it has underwritten $34.5 billion in new issues, compared with $55.6 billion in the same 2003 period.
The culprit is no surprise. Mortgage refinancing, the engine that drove MBS activity to record highs over the past three years, is at last ending, with the housing sector oversaturated and the specter of rising interest rates on the horizon. According to the Commerce Department, sales of new single-family homes fell last month by almost 12%, the largest monthly drop since the depths of 1994, when the mortgage sector was firmly in the doldrums.
The impact has already been brutal on most of the Street's top MBS underwriters, none more than Goldman. At this point last year, Goldman was the top-ranked underwriter of U.S. MBS. As of June 7, it had tumbled to eighth place, posting $17.6 billion in new-issue underwriting, compared with the $61.2 billion it had underwritten by that point in 2003. Needless to say, few expect the firm to match its overall 2003 performance, when Goldman came in third place with more than $100 billion underwritten. "We manage our business for our clients based on market opportunities, not for short-term league table rankings," said a Goldman spokesperson.
Goldman declined to comment on rumors that it could start laying off staff later this year if things do not improve, as one source speculated. Yet sources familiar with Goldman said its MBS desk is already a lean enterprise, noting that there isn't that much more bloodletting to be done.
UBS's Martin disagrees that the Street will have to wield the axe in great measure, noting that many banks remain conservatively staffed. "For the most part, the Street is understaffed, in part because we couldn't step up fast enough [during the past years' boom], which means we don't have to cut as much as the originators do."
There still is plenty of fear, though. One executive recruiter specializing in debt capital markets said that he has been getting a number of calls lately from nervous MBS pros looking to shop around for more stable opportunities. Unfortunately, there aren't many. "In the past, these guys might have been able to jump over to a lender, but that's not going to happen anymore," he said, noting that mortgage lenders have already been undertaking massive layoffs.
Yet the brunt of the market downturn could fall most harshly on newcomers to MBS, said one head of MBS at a top-ranked bank. "The top five shops are going to be fine," he said. "We're not going to make as much money as we used to, but we're going to be a lot better off than the guys at the end of the spectrum." It is the up-and-comers, such as Barclays Capital and HSBC Securities, and former market veterans turned neophytes such as Nomura Securities, that could have the hardest time moving from new-issue underwriting to a greater emphasis on secondary trading.
Bankers predicted that later this year, secondary MBS trading could become a focus for many MBS underwriters, noting that traders are still going to be needed, regardless of how much new issuance dries up. "We're coming off three of the biggest production years ever - there are mortgage bonds everywhere, in every bond portfolio you could imagine," UBS's Martin said. "Even if new issuance drops 60%, secondary trading could rise."
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