Worries about yields dropping below 4% were replaced last week by concerns about Fannie Mae and the Office of Federal Housing Enterprise Oversight's (OFHEO) accounting probe. While the sector saw better profit-taking, there was buying from money managers, banks and others on the spread widening. Overall, spreads held up fairly well over the week. Meanwhile, 30-year Fannie Mae 4.5s and 5s were two basis points weaker and flat, respectively; 5.5s and 6s tightened one basis point; and 6.5s, which continue to benefit from their technical situation, were in two basis points. In 15s, spreads were flat to slightly weaker in 4s and 4.5s; and one and three basis points better in 5s and 5.5s.

Last week Fannie Mae announced it had entered into an agreement with OFHEO regarding issues raised in a recent report. As part of the agreement, the GSE said it would "achieve and maintain a capital surplus target of 30 percent within the next 270 days." Of concern to the MBS market is the potential for Fannie Mae to sell assets and reduce debt to help meet its capital requirements. While continued market uncertainty is expected, it seems the selling of mortgage assets to meet capital requirements is less likely, according to analysts (See story on p.18).

In terms of Fannie's portfolio growth, the impact should be modest, suggests UBS. It is not in Fannie's best interest to avoid purchasing assets, especially considering that portfolio earnings have been 75% of the firm's profits over the past several years. Given the Fannie developments, UBS has revised the GSE's growth to 5% in 2005, versus previous expectations of 9%. Growth for the remainder of this year has been revised to zero.

Fannie Mae is not the only issue potentially impacting the MBS market. There is also EITF 03-1 looming in the shadows as investors wait for FASB's conclusion on the available-for-sale issue. Bear Stearns said that accountants are already advising their clients to prepare for a fourth quarter implementation. The firm also said that some banks have suggested that the new rules create incentives to own loans versus securities. While both of these issues suggest the potential for less support for mortgages, the decline in supply may help, "to keep mortgage spreads tightly in place," analysts state.

Mortgage application

activity gains

Mortgage application activity increased for the week ending Sept. 24, as rates dipped to early April lows. The Mortgage Bankers Association (MBA) reported that the Purchase Index rose nearly 3% to 469. At the same time, the Refinancing Index increased close to 8% to 2211. Refi activity was in line with analysts' expectations. As a percentage of total application activity, refinancings were 45.9% versus 44.5% previously. ARM share was 32.5%, down slightly from 33.1%.

Fixed rate mortgage rates increase slightly

Freddie Mac reported a slight gain in fixed mortgage rates for the week ending Oct. 1. The news seems rather anticlimactic now as the market has sold off on better economic news and rates are several basis points higher.

Both 30- and 15-year fixed rate mortgage rates rose two basis points to 5.72% and 5.12%, respectively, according to Freddie Mac. Analysts were expecting rates to decline. Meanwhile, the one-year ARM rate reported in at 3.97% versus 4.00% last week. The low level of rates through midweek last week should help keep the Refi Index in the low to mid-2000 area in this week's MBA report.

Prepayment outlook

The housing agencies will report September prepayments on Thursday, Oct. 7. Speeds are expected to rise about 15% to 20% for 30-year Fannie Mae 5.5s and 6s. Other coupons are predicted to increase less than 10%. Ginnie Mae's are anticipated to show smaller percentage increases, though speeds will continue to run higher than conventionals.

Copyright 2004 Thomson Media Inc. All Rights Reserved.

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