The expected increase in mortgage prepayments following changes to the Home Affordable Refinance Program, or HARP 2.0, has so far not reached the levels expected.

Heading into the March prepayment report, the speeds on eligible vintages were projected to increase more than 10% from the previous month. However, they prepaid modestly below that for the most part.

Expectations for a better response in March were heightened by comments from the Mortgage Bankers Association (MBA) in a report on application activity. In the report, for the week ending March 16, the MBA said that some of the biggest banks were reporting HARP volume at about 30% of refinance activity.

Given timing differences across servicers in their implementation of HARP, Barclays Capital analysts believe speeds will likely show some "lumpiness." For example, Citi appears to be increasing its HARP efficiency within its pools of serviced mortgages. At the same time, however, Wells Fargo- and Chase-serviced pools may be reaching a plateau. This is because borrowers from these two servicers have had access for a prolonged period to both banks' more efficient and active HARP platforms, Bank of America Merrill Lynch analysts said.

Meanwhile, Bank of America has been lagging behind, as its cross-servicers cherry-pick their pools for the better credits to refinance.

Indeed, while the HARP changes should boost cross-servicer participation, the increase is expected to be limited because, despite the ability to access streamlined refinancing, cross-servicers still face hurdles and risks not faced by same-servicer participants. These include overlays for correspondent lending that restrict the eligible borrower universe and tighter underwriting conditions. For example, correspondent lenders for Wells Fargo are limited to a 105 loan-to-value, or LTV, cap on HARP 2.0 refinancings.

And while the changes could help cross-servicer speeds "at the margin," potential cost issues are also likely a limiting factor, Barclays analysts added. These expenses include the higher cost of servicing a delinquent loan versus a performing loan; continued rep and warranty risks; and Basel III changes that will make servicing more capital intensive. All of these factors will influence an originator's decision regarding refinancing another servicer's loan.

Overall, Barclays analysts expect refinancing speeds on higher-coupon mortgages to increase slowly over the coming months, becoming fully ramped up by the June report (released in July) at the earliest. However, Credit Suisse analysts project the full ramp-up on higher coupons one month earlier, for inclusion in the May report.

Despite the uncertainty of when the impact of HARP will show up in prepayment speeds, the risk now is on the upside, partly because of the high margins associated with HARP refinances for lenders and the attractive profits from servicing loans with less than 125 LTV.

Conventional prepayment speeds are projected to slow on average about 5% in April from March, with the 4.5% coupons and lower dropping around 10%. A significant factor in the decrease is the lower number of collection days, which dips to 20 from 22.

Refinancing activity also declined 16% on average in March from February as mortgage rates moved off their record low seen in mid-February this year. Meanwhile, 5.5% coupons and higher are expected to slip just 2% or less because of increased HARP 2.0 refinancing activity.

Looking ahead to the May report, prepayment speeds on 30-year Fannie Mae and Freddie Mac MBS are expected to remain flat to slightly higher on 3.5% to 5% coupons, and increase around 5% on higher coupons as the day count increases by two days.


BofA Delinquency Buyouts

Meanwhile, prepayment speeds on BofA Ginnie Mae 6% to 7% pools surged in March from February by a constant prepayment rate (CPR) of 35 to 42 for these coupons. This caused the entire cohort to increase 5 to 10 CPR versus 1 to 2 CPR for lower coupons.

As a result of these buyouts, Deutsche Bank Securities analysts reported that supplemental data from Ginnie Mae indicated that the 90-day delinquency rate dropped from 9.9% to 5.5%, which is still above the 5% threshold for delinquency buyouts.

Nomura Securities analysts said that considering that the BofA buyouts occurred only in the higher coupons, there are concerns that the servicer might do large buyouts of delinquent loans backed by lower coupons in the future.

According to analysts, there are two approaches that BofA can possibly pursue once it hits the 5% delinquency cap that was set by Ginnie Mae. BofA can do a large one-time buyout and lower delinquencies to under 1%. This is similar to what the bank did at the end of 2009.

Like GMAC, it can also buy out sufficient 90+ day delinquent loans on a monthly basis to maintain delinquencies around 5%. Analysts said that buying out the higher-coupon delinquent loans is actually more economical because the issuer advances a higher coupon on these loans to the purchasers as long as the loan remains in the pool.

Additionally, the cap that was mandated by Ginnie Mae is a result of loan count. Given that the average loan size is less on higher coupons, Nomura analysts stated that BofA most likely bought out more delinquent loans by "using less balance sheet," they wrote.

Even though it is quite hard to determine the exact buyout strategy, the limited buyout activity seen last month does imply that BofA might continue to buy out just enough loans to have 90+ day delinquencies at roughly 5% instead of going for large one-time buyouts.

In the alternative, Nomura analysts stated that BofA might attempt to slowly lessen its delinquency pipeline by buying out some delinquent loans every quarter to lessen the impact on its balance sheet.


March Buyouts

The March buyouts appeared to have been just somewhat higher than the average growth in 90+ day delinquencies over the past 10 months, said Morgan Stanley analysts, and represented roughly 10% to 11% of total potential buyouts.

Currently, Deutsche analysts anticipate increased buyout risk in 5.5% coupons for April, and Citigroup Global Markets sees 4.5% coupons at risk in May.

The buyouts in March led to increased roll volatility on the Apr/May rolls in the higher premium coupons on April 17 (Class C 48-hour notification). Specifically, the 5.5% roll in particular dropped 10 ticks as a result of fears that the worst-to-deliver pools will be concentrated in BoA pools and thus at risk for increased buyouts in the near future. Higher-coupon Ginnie Mae/Fannie Mae MBS were also pressured because of the prepayment uncertainty associated with the BofA buyouts.

The timing of the buyouts, including amounts and coupons, is uncertain and difficult to incorporate into prepayment models. At this time, 30-year Ginnie Mae speeds are expected to slow 10% on average in April, with 6% and 6.5% coupons dropping 15% to 20% given the impact from the delinquency buyouts.

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