Due to various factors, among them smaller loan sizes and lower loan balance dispersion, analysts from JPMorgan Securities said 15-year premiums should continue to provide superior prepayment convexity compared to their 30-year counterparts.
However, researchers also acknowledged that speed differences between 7 to 12 WALA 30- and 15-year premium collateral have somewhat narrowed in the current bout of refinancing.
Analysts explained that 15-year issuance usually rises sharply in a refinancing wave because conventional 15-year borrowers have typically refinanced out of seasoned 30-year mortgages. This usually results in smaller average loan sizes and lower loan balance dispersion on 15-year paper compared to 30-year product.
Further, as 15-year borrowers tend to choose a shorter amortization schedule, they usually don't extend their amortization period when refinancing. This is why the option to go to hybrid Arm product is less important for 15-years than for 30-years.
The researchers also explained that, because 15-year borrowers are generally less inclined to move into hybrid Arms, the curve at origination is not really a major driver for 15-year prepayments, unlike for 30-year paper.
Analysts said that absolute speeds for 2001 origination 15-year and 30-year conventionals were relatively slower in October last year compared to similar WALA paper in the fall of 2001. Analysts have argued that this is because this paper was originated in a comparatively steeper curve environment so was therefore less sensitive to the hybrid effect versus 2000 originations.
Because the curve has been steep since late 2001, the hybrid Arm incentive has been comparatively smaller on 7 to 12 WALA paper observed in October 2002. This partly explains the narrower prepayment differential between 30-year collateral and 15-year product with 7 to 12 WALA in today's refinancing wave relative to the fall of 2001.
Meanwhile, Credit Suisse First Boston analysts said they are neutral on the 15-year/30-year basis. They said that sharp changes in the shape of the curve over the last three weeks (counting from Nov. 15) have contributed to the significant volatility in the basis. The volatility makes it much harder and more expensive to hedge the curve, which has led to the firm's defensive view. Researchers said they recommend 15-year paper on an outright basis for total return investors because of the extension protection inherent in the sector combined with the relative ease of hedging 15-year paper.
