Mortgage activity last week held steady. Spreads continued to tighten amidst limited supply and ongoing demand primarily from banks, hedge funds, insurance companies, and others. The week also included month-end, which provided additional support from index funds. Over the Wednesday-to-Wednesday period, spreads firmed five basis points in 30-year Fannie Mae 5% coupons, nine basis points for 5.5s, and 11 basis points for 6s. In dwarfs, 4.5% coupons tightened four basis points while 5s were in seven basis points.

Supply last week held to an average of just $1.5 billion per day. Looking ahead, the supply outlook is not favorable. According to JPMorgan Securities, the amount of outstanding fixed-rate supply will decline sharply over the next couple of months (See related story on p. 14). Specifically, they are predicting a decline of about $10 billion in April, with the 30-year sector losing about $20 billion. Over the last eight months, says JPMorgan, outstanding 30s have declined by about 7% of the total outstanding in August of 2002.

At the same time, with the March Refinancing Index holding at over 8000 for most of the month, JPMorgan anticipates that paydowns in April and May will increase 15% from March levels.

While the technical situation remains favorable, fundamentals are less so which has prompted UBS Warburg and Lehman Brothers to drop to a neutral weighting from overweight. UBS Warburg noted that their model suggests mortgages are very rich; CMO activity is slowing; and volatility has dropped dramatically and looks low for the current level of rates. Meanwhile, Lehman adds that spreads are at their tight range on an OAS basis; implied volatility is at its lowest since September 2001; and there is increased prospect of a large gain in the vega of the MBS Index.

Refi Index holds flat as rates dip

The Mortgage Bankers Association (MBA) reported little change in mortgage application activity for the week ending April 25. The Purchase Index reported in at 356 - down 1%, and the Refi Index was virtually unchanged at 5092 versus 5104. As a percentage of total applications, refinancings were unchanged at 68.4%. Meanwhile, ARM share slipped to 14.3% from 14.8%.

Freddie Mac reported a nine basis point drop in fixed mortgage rates for the week ending May 2. The 30-year fixed mortgage rate reported in at 5.70%, and is just nine basis points above its record low of 5.61% set a few weeks ago. The 15-year rate averaged 5.03%, while the one-year ARM was 3.74% versus 3.79%.

In comments from Citigroup, analysts note the current level of rates could pop the Refi Index back up to between 6000 and 6500 this week. Longer term, Lehman sees the Refi Index hovering around the 5000 level for the next couple of months, which will keep prepayment speeds firm through the summer.

Will speeds peak in April?

While some analysts believe speeds will peak in April, consensus is calling for conventional mortgages to peak in May and to start declining slowly in June. Ginnie Maes, however, are predicted to peak in April.

The April report comes out Wednesday, May 7. Consensus has speeds on Fannie Mae 2002 5.5s increasing to 19% CPR from 11%; 2002 6s to 47% CPR from 38%; and 2002 6.5s to 62% CPR from 54%. Ginnies are predicted to increase 63% to 16% CPR for 2002 5.5s; plus 26% to 44% CPR for 2002 6s; and plus 16% to 60% CPR for 2002 6.5s.

Refinancings still going strong

In the first quarter of 2003, 43% of refinanced Freddie Mac-owned loans resulted in new mortgages that were at least 5% higher in amount than the original mortgages, reported Freddie Mac's quarterly refinance review released last week. This is compared to 60% in the first quarter of 2002, and 41% in the fourth quarter of 2002.

In terms of cash-out refinancings, the report also mentioned that last year homeowners converted $96 billion (compared to the roughly $84 billion in equity that was cashed-out and turned back into the economy in 2001) of their home equity into cash. This allowed these borrowers, in turn, to support the economy through home improvements, car purchases, and repayment of consumer debt, noted Amy Crews Cutts, Freddie's deputy chief economist. She added that so far this year, over $24 billion in equity has been converted. However, this has hardly made a dent in the $6 trillion worth of equity value held in single-family homes. She also mentioned that by reducing their mortgage costs through refinancing, borrowers are saving a little more than $110 a month on average. This adds up in aggregate to about $300 million per month in extra spending money for these homeowners.

Freddie's Conventional Mortgage Home Price Index shows the cumulative growth in the value of housing, on a national average, to be approximately 40% over the past five years. The firm's economists have revised their forecast to an annualized growth rate of about 5.8% for this year.

The report also showed that properties refinanced during the first quarter 2003 experienced a median house-price appreciation of 6% over the time since the original loan was made, which is down from 17% for loans refinanced in the 1Q 2002.

Meanwhile, Freddie's most recent quarterly economic forecast estimates economic growth of only about 2% in the first half of 2003, which is expected to keep mortgage rates at their current level of sub-6%.

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