Mortgages recovered their April losses last week and then some. According to Lehman Brothers, month to date through April 19, the MBS Index had returned seven basis points in excess return versus Treasurys. For the month ending April 13, excess return had been at minus seven basis points. The MBS Index is up a respectable 51 basis points year-to-date.
The sector benefited from active buying last week from a wide range of investors including banks, money managers, insurance companies, and fast money. Buying flows picked up sharply following the release of the Federal Open Market Committee minutes that hinted that the committee might stop at 5% on Fed Funds. The support even continued after the stronger-than-expected CPI number despite the added uncertainty about future FOMC action. Flows were directed both and up and down the coupon stack. FNMA 5s and 5.5s benefited from news of good-sized mega creation in April: two 5% pools totaling $6 billion, and one $1.3 billion 5.5% pool. Meanwhile, higher coupons benefited from the steeper curve.
For the moment, mortgages are in a sweet spot with the market range bound, volatility ticking lower, and supply remaining limited. In addition, with the 10-year above 5%, there is expectation of support from yield-based investors, Lehman analysts say. This suggests to them that mortgages have the potential to tighten in a selloff. The below par-price on 6% coupons is also attracting bank and other real money interest.
The near-term horizon, however, looks to be challenging as the market is very sensitive to the economic data. Key releases looming this week are home sales, Q1 ECI, and the advanced Q1 GDP reading. Then next week sees details of the Treasury Refunding and the Employment Report.
Refi Index holds steady
Mortgage application activity was just slightly lower for the holiday-week ending April 14. According to the Mortgage Bankers Association, the Purchase Index declined 2.5% to 407; however, the Refinance Index was essentially unchanged at 1526 versus 1532 in the previous report.
Expectations were for refinancings to decline through 1500 towards 1450 in response to higher mortgage rates. Possibly there was additional reaction from fence sitters on expectations of further increases in mortgage rates. In addition, however, there was the adjustment for the Easter holiday that tends to produce additional noise around the number. The Refinance Index is expected, however, to fall below 1500 in this week's release.
30-Year mortgage rate moves above 6.5%
Fixed mortgage rates moved to their highest level since the early summer of 2002. According to Freddie Mac, the 30-year fixed rate averaged 6.53% for the week ending April 21, up from 6.49% previously. The last time the rate was above 6.5% was July 12, 2002, when it stood at 6.54%. Taking into account the average 0.6 points, the no-point mortgage rate is around 6.65%.
The 15-year fixed mortgage rate rose three basis points to 6.17%. This is the highest level since June 13, 2002, when it also averaged 6.17%. On the adjustable side, 5/1 hybrid ARMs reported in at 6.16% compared to 6.13%; and one-year ARM rates were up two basis points to 5.63%.
Prepayment outlook
According to UBS' calculations, only 4.5% of the FNMA 30-year universe is currently fully refinanceable. Back in July 2002 when mortgage rates were at similar levels, nearly 42% of the market had an incentive to refi of over 50 basis points.
With the higher levels reducing refinancing opportunities as well as contributing to a slowing housing market, UBS analysts anticipate that speeds heading into the summer months will be slower than in the previous two years, although it is unclear at this time just how much slower. Currently, analysts estimate speeds on discounts will be 26% slower versus 2005 using 12-month CPR.
Current indications suggest April prepayment speeds will decline around 5% from March. The decline is due, in part, to four less collection days, and modestly higher mortgage rates that resulted in some slowing in refinance activity. Speeds are expected to increase around 10% or so in May on a higher day count, then hold flat to slightly higher in June.
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