The MBS market saw active two-way flows last week, with originator selling picking up from recent daily averages of $1 billion to between $1.5 billion and $2.0 billion. The increase was easily absorbed by strong demand from money managers, hedge funds, and CMO desks. Buying interest was somewhat more diverse last week. As lower coupons become increasingly pricey, moves up in coupon were observed, as well as moves into 15-year paper.

Over the Wednesday-to-Wednesday period, spreads on 30-year Fannie Mae 6s moved in three basis points, 6.5s were just one basis point wider, and 7.5s and 8s were one basis point firmer and flat, respectively. In dwarfs, spreads were unchanged in 5.5s, 6.5s and 7.5s, and four to five basis points tighter in 6s and 7s.

September prepayments - slower then expectations

September prepayments were released last Monday, and actual speeds came in slower than predictions. One reason is that September contained two less business days than August.

In comments regarding September speeds, Bear Stearns researchers noted that the biggest surprise was 2001 conventional 7s which increased only 5% CPR to 52% CPR. The 1993 vintage, on the other hand, rose 9% CPR to 48%. They say that substantial monthly timing differences often emerge as low-balance, high coupon issues exhibit a delayed response to significant incentives.

Lehman Brothers researchers noted the unexpected strength in seasoned premiums. For example, 1998 FNMA 6.5s rose 10% CPR to 51%, versus expectations of a 6% CPR increase.

Finally, UBS Warburg analysts suggested the combination of slower than expected speeds on newer vintages, and the as-expected to higher-than-expected speeds on seasoned vintages, "strongly suggests we are seeing limiting effects from mortgage banker capacity constraints." If this is true, than peak speeds should be lower than what has been projected; however, strong prepays will extend further into 2003 until pipeline backlogs are cleared.

Looking ahead, speeds will continue to increase with peaks now pushed out to December. Regarding peak speed expectations, Bear Stearns and UBS Warburg researchers predict 2001 6s and 6.5s to hit 40+ and 60+ CPR, respectively. Also, UBS analysts forecast 2001 7s to peak at 63% CPR, 2000 7s at 72%, 2001 7.5s at 60%, 2000 7s at 69%, and 2000 8s at 63% CPR.

Refis and mortgage rates hit new record ...again

Last week, the Mortgage Bankers Association reported that for the week ending Oct. 4, refinancing applications posted a new record high, rising 3.8% to 6926.9, while purchase applications fell 1.9% to 352.5, and are down 14% over the last month. As a percentage of total applications, refis were 77.9% compared to 76.9% in the last report. The record high is 78.4% set last November. Finally, the share of ARMs rose to 13.4% from 12.5%.

Freddie Mac reported that mortgage rates actually slipped slightly for the week ending Oct. 11. This was a surprise as most expected a slight increase given that the MBA reported a slight gain in its survey regarding the 30-year contract rate. Setting new record lows was both the 30-year and 15-year fixed mortgage rates. The 30-year rate fell to 5.98% from 6.01%, and 15-year mortgage rates declined to 5.34% from 5.40%. Lastly, the one-year ARM rate was down six basis points to 4.23%.

With mortgage rates holding in record low territory, this week's Refi Index will hold firm. RBC Dain Rauscher analysts are predicting the index will hit 7000. Whether it dips or rises, the bottom line is that the Refi Index will have held over 6000 for four of the last six weeks, and over 5000 for 10 of the last 11 weeks. Its effect is two fold: peak speeds are forecast for December, and a prolonged period of high prepayments is on the horizon.

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