With the recent MBS widening trend and other negatives - particularly extension risk and diminishing demand - plaguing the MBS sector, many market participants are not looking so kindly on mortgages.

"All the bad things that we had feared for the mortgage market are finally coming through," wrote Lehman Brothers analysts in a recent report, though acknowledging that the market has already started to price in many of the risks that they had previously warned against. Currently, spreads do not look "terribly attractive yet," and extension risk is not the real issue at this point, according to Lehman analysts. "We do not think the supply of duration due to mortgage extension is the true cause of mortgage cheapening," analysts said, attributing the recent sector underperformance instead to a lack of demand. Analysts noted that although the GSEs could provide a backstop at some point, it would not necessarily lead to spread tightening. Also, the market's overall bearish tone has soured rate-driven buyers while diminishing carry as well as risks from a weakening housing market have pushed away investors who are after mortgage spreads or carry.

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