The mortgage market came under pressure last week as Treasury yields rallied on weakness in the equity market. In fact, the 10-year Treasury closed at an all-time low on Tuesday, Sept. 24, at 3.64%. The market reversed on Wednesday as investors began moving back into stocks. The backup in Treasurys encouraged increased originator selling with daily amounts averaging between $1.5 billion and $2 billion.

Investor flows were mixed. Early week activity was light on the increased volatility in the market. In addition, investors were put off by agency debenture spread widening associated with Fannie Mae's large duration gap. As the market settled down in the last half of the week, buyers emerged to take advantage of the wider spreads. Money managers and CMO desks were the most active participants, focusing on the lower end of the coupon stack. Ginnie Maes also saw increased support as investors perceive the sector to have less prepayment risk than conventionals. In addition, the sector has been benefiting from a flight-to-quality bid.

Over the Wednesday-to-Wednesday period, spreads widened nine basis points in Fannie Mae 30-year 5.5s, while 6s through 7.5s averaged 13 basis points weaker. 30-year Ginnies, on the other hand, were just eight basis points weaker for 5.5s through 7.5s.

Mortgage Indexes

The Mortgage Bankers Association reported gains in mortgage applications as fixed rates hit new record lows for the week ending Sept. 20. On a seasonally adjusted basis, the Purchase Index rose 0.6% to 360, while the Refi Index gained 6% to 5977. This was less than expected as the index was predicted to rise above the previous record of 6104. Still, it was the ninth consecutive week that the Refinance Index topped 4000, said the MBA. Of further note, the Refinance Index has been above 5000 during seven of those nine weeks.

As a percentage of total applications, refinancings represented 74.8% versus 73.6% in the previous week. The highest refinance share of 78.4% occurred the week ended Nov. 9, 2001. The share of ARM activity decreased to 11.3% from 12.5% the previous week.

For the week ending Sept. 27, Freddie Mac reported fixed mortgage rates set another new record low. Thirty- and 15-year fixed mortgage rates, as well as one-year ARM rates fell six basis points to 5.99%, 5.41%, and 4.28%, respectively. With rate levels remaining hot, this week's Refi Index should set a new record, topping the recent record of 6104 set on Sept. 6.

Prepayment outlook

At this time, mortgage market exposure to a 50 basis point refinancing incentive is over 90% says Credit Suisse First Boston. Bear Stearns notes as well that at current rate levels, $2.55 trillion agency fixed rate loans and about $6 trillion 1-4 family loans are exposed to refinance risk. They now project unseasoned 6s, 6.5s and 7s to prepay at 40%+, 60%+, and 70%+ CPR, respectively. This compares to 18%, 38% and 47% CPR in August. Bear Stearns adds that with the Refi Index above the 5000 mark for more than six weeks already, this refi wave is likely to be protracted as originators are working through capacity constrained pipelines. At this time, the outlook has November speeds equal to or on top of October predictions for most coupons.

On Monday, Oct. 7, the housing agencies release their prepayment reports for the month of September. Percentage increases for conventionals are expected to be slightly less than last month for 2001 6s at plus 56% versus plus 62% for August. For Ginnies, 30-year 6s are expected to increase 46% versus 30% previously. The table below highlights the latest predictions for speeds in the coming months. Over the past week, speeds have been increased about one to two percent CPR.

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