Last week was another interesting one in mortgages. Initial focus was on the FNMA 5 roll. The drop rose to 10.25 at one point on Monday from about 7.5 the week before last. On Monday and into early Tuesday, flows were focused primarily on FNMA 5s. Then the flight to quality bid hit on corporate credit concerns and potential hedge fund problems. Spread sectors, including mortgages, were hit by heavy selling to move into Treasurys beginning Tuesday - including over $1 billion in MBS selling from fast money. Treasurys continued to rally on Wednesday bringing the 10-year Treasury yield to 4.15% at one point, re-igniting refinance fears until the 10-year moved back towards 4.20%. The heavy selling mid-week moved mortgage valuations to fair to slightly cheap, and Thursday saw active buying as Treasurys gave up additional ground following a strong retail sales report.
Outside of the current market jitters associated with corporates, mortgages are currently seen as directional - strengthening on sell-offs and weakening on rallies - with spreads overall holding in a relatively narrow range. The tone is improved from recent weeks with analysts mostly neutral to slightly positive with yields hanging around the middle of their range. Technicals are considered favorable with supply holding at around the $1 billion per day mark. Overseas buyers tend to be more interested in mortgages when the 10-year is in the 4.25% area or higher, meaning there is also potential support now from corporate cross over buying.
Mortgage application activity moves higher
The Mortgage Bankers Association reported gains in application activity - as was expected - for the week ending May 6. The Purchase Index increased 9% to a new 526 record, and the Refinance Index was 10% higher at 2263. "Strong support for home sales has been provided by a recent decline in interest rates, a strong jobs market, and nice weather during the spring-buying season," said MBA Chief Economist Douglas Duncan. "These factors have led to a record level of purchase applications on both weekly and four-week rolling averages." As a percentage of total application activity, refinancings were essentially unchanged at 39.2% versus 39.1% in the previous report. ARM share increased to 35.3% from 33.4%.
Mortgage rates moved up slightly as rates backed up following the strong April employment report and extended into the survey period on Monday and Tuesday. Freddie Mac reported that for the week ending May 13, both 30- and 15-year fixed mortgage rates rose two basis points to 5.77% and 5.33%, respectively. At the same time, 5/1 hybrid ARMs were up five basis points to 5.21%; and the one-year ARM rate was little changed at 4.23%, versus 4.22% last week.
"The bond market isn't exactly sure how fast or slow the economy will expand in the long term and thus bond yields have remained remarkable low," said Freddie Mac's Chief Economist Frank Nothaft. "Hence, we expect mortgage rates to remain relatively low for the time being."
Current expectations are for mortgage application activity to dip from the recent gains, given the slight gains in mortgage rates. Lehman Brothers analysts expect the Refinance Index to remain in the low 2000s, while the Purchase Index should hold around current record levels as a result of strong seasonal factors.
May prepayments expected to decline modestly
The early outlook for May is for speeds to slow about 5% in 30-year 5.5s and higher. Expectations are for lower coupons to be unchanged to slightly faster. Influencing the report is a similar 21 day-count for May as in April. In addition, the 30-year mortgage rate averaged 5.86% in April, down slightly from March's 5.93% average. At the same time, the Refinance Index averaged 1971 versus 1999 in March. Looking ahead to June, speeds are predicted to increase over 10% from May's level. The day-count increases to 22 days, while mortgage rates have dipped and the Refinance Index has moved modestly higher in the past couple of weeks.
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