Mortgages continued to see strong two-way flows last week, as money managers, in particular, remained strong buyers. Originator selling remained generally light at about $4 billion. There was also profit taking, notably from banks, on the tighter spreads. Spread tightening ranged from 8 basis points in conventional 6s to 3 basis points in 7.5s, while 8s and higher coupons were wider. Discounts and current coupons were supported also by roll activity related to 48-hour notification on 30-year conventionals that began on Thursday.
Overall, spreads are expected to be tighter throughout the quarter. Goldman Sachs, in fact, "believes that mortgages will be one of the leading rate of return performers for the first half of the year." Most firms on the Street are now overweight the sector. Reasons include declining volatility, lower dollar prices, historically wide spreads, excellent carry, and slowing prepayments and supply.
Prepayment speeds increased in December, as was expected. However, increases in conventional 6s were somewhat less than expected, while seasoned vintages in 7.5s and higher were more than expected. For example, speeds on 1999 and older 6s increased 10% to 16% versus expectations of +20% to 30% by some, while 6.5s rose 10% to 20%, generally in line with expectations. Unseasoned and lightly seasoned 7s were little changed, though many firms on the street expected unseasoned vintages to rise about 10%-15%. Bear Stearns suggests one reason for the smaller than expected gain is the massive issuance in 2001 cohorts that probably slowed December's numbers as newly refinanced mortgages were added to the total balance.
In 7.5s through 8.5s, 2001 and 2000 vintages increased less than 10%; however, older vintages increased 15% to 20%. The Street was estimating increases of about 10% or less. Bear Stearns says it expects seasoned issues to decline more slowly than new issue speeds in the coming slowdown.
There were some differences between Fannie Mae and Freddie Mac speeds attributed to pools serviced by Wells Fargo, notes Bear Stearns. For example, Freddie Mac 2000 6.5s prepaid at 50.7% CPR versus 40.7% CPR for Fannie's; and Freddie 2000 7s prepaid at 73% versus 64% CPR for Fannie issues. Also of note, Freddie 2001 8s prepaid 14% CPR behind Fannie 8s due to the high percentage of Alt-A loans. "This discrepancy highlights the tremendous convexity advantage of agency Alt-A paper," says Bear.
In comments regarding the report, Lehman Brothers noted that overall prepayments were higher than expected, as they have been over the past two months. Analysts said that the callability of 30-year conventional collateral is astounding. Looking ahead to January, Lehman is looking for steep declines in premium prepayments with 7s and 7.5s slowing by 12-15% CPR.
Speeds on Ginnie Maes were slower than expected with unseasoned or moderately seasoned issues mostly unchanged to slowing. Seasoned vintages in 7.5s and higher increased between 10% and 20% for the most part. The Street was mostly expecting increases of about 20% and more in 6s through 7s. Salomon Smith Barney suggests the difference versus conventionals is likely due to the greater financial hurdles Ginnie borrowers face in refinancing their loan. In addition, these borrowers tend to be weaker credits which slows down the process. Lehman adds that tightening credit standards in the latter part of 2001 has disproportionately constrained the ability of Ginnie Mae borrowers to refinance. Earlier in the year, the GNMA-Conventional prepayments for moderately seasoned collateral were quite similar.
On Wednesday, the Mortgage Bankers Association released its weekly Mortgage Application Survey. Apparently in response to questions regarding their holiday adjustment factors, the MBA revised their adjustment to 1.67 from 1.25 which reflects a two-business-day-loss versus one. As a result, the Refi Index recorded a 33% increase to 1704 from a revised 1285. In addition, this lowered the decline last week to 18% versus 38%. The same revisions were made to the Purchase Index resulting in a 28% increase from last week to 376 from a revised 294. This compares to a 21% decline from the previous week. In other information, the Conventional Refi Index rebounded 33% to 1819 versus 1363(R) and the Government Index jumped 26% to 1102 from 876(R). As a percentage of total applications, refinancings held steady at 50%.
On Thursday, Freddie Mac announced that fixed mortgage rates had dipped further. The 30-year fixed mortgage rate declined eight basis points to 7.06% and the 15-year fixed mortgage rate fell seven basis points to 6.55%. One-year ARM rates were unchanged at 5.26%.