Mortgages saw a bit more activity last week, much of which was more supportive than it had been lately. Early week buying began to seriously emerge when rates backed up modestly on the stronger-than-expected ISM report released on Tuesday. The number came in at 54.7 versus previous expectations of 51.1. It was also the highest reading in 11 months, thus it raised market concerns about inflation, which were somewhat eased by last Monday's PCE report.
The better buying interest extended through midday Thursday with near-term supportive events encouraging the support. Typically, mortgages benefit from the decline in volatility that tends to follow the release of the employment report. In addition, the reinvestment of paydowns is usually close to this period as well. In this case, paydown information will be available on Monday. Finally, there is one other potential source of support and that is pool notification that begins on Thursday for 30-year conventionals.
Overall, volume was about average on the week. Flows were mixed, moving up and down the coupon stack, though 5.5s were favored. The recent widening in 5s due to FAS 159 related issues attracted money manager and fast money buying interest as levels became too attractive to ignore. Meanwhile, 6.5s struggled on the week as the roll softened. Overseas investor presence was very limited last week as Asian investors were out for the Golden Week holidays. In addition, many parts of world were closed on May 1 for May Day. Even though overseas investors were quiet, domestic activity was able to support the heavy originator supply. Selling continued to average between $1.5 billion and $2 billion per day and was focused on the 5.5% and 6.0% coupons.
Mortgages closed out the month of April in barely positive territory. It seems the trend this year has been to gain in the first half of the month, only to lose it by the end. According to Lehman Brothers, the MBS Index recorded three basis points of excess return versus Treasurys for the month of April. This compares with zero basis points for ABS, negative 14 basis points for CMBS and 18 basis points over for corporates. So far in May, the MBS Index is up two basis points, which is matched by corporates. Meanwhile, CMBS and ABS remain unchanged. Year-to-date, the MBS Index is up five basis points, the ABS and CMBS indexes are down nine and 32 basis points, respectively, and corporates are up 19 basis points.
Street's mortgage view
There are several important events this week: the Federal Open Market Committee meeting and statement on Wednesday and Friday's PPI and retail sales reports. Other economic releases include wholesale trade on Tuesday; import prices, international trade and the Treasury statement on Thursday; and business inventories on Friday. The quarterly refunding also takes place with $14 billion in three-year notes on Monday, $13 billion in 10-year notes on Tuesday, and $5 billion in 30-year bonds reopen on Thursday. Finally, as previously noted, Thursday begins 48-hour notification in 30-year conventional MBS.
ASR went to press before the April employment report that was released on Friday. It is expected that if Friday's data sparks a rally in rates, those who are long MBS will likely take profits. A selloff will likely produce mixed results for mortgages as the initial response will be to take profits, though yield buyers could be partially offsetting this trend. The early view for this week is on the optimistic side, with the reinvestment of paydowns and the return of Asian investors.
Street analyst sentiment last week ranged from neutral to positive on the mortgage basis. Boosting the sector's performance were attractive OAS levels, although the elevated supply and limited investor demand were weighing on the mortgage market. "Growing levels of fixed-rate supply continued to weigh on the sector, leaving us neutral at best on mortgages," Countrywide Securities analysts said. "While there continues to be demand for the product, it has not been strong enough to overcome growing sales by originators." With the wide levels in spreads and OAS, Countrywide analysts expected demand to pick up, particularly from overseas investors.
Bear Stearns analysts said that spreads to swaps have been tighter as a result of three factors: expectations of increased overseas buying, the end of bank selling associated with FAS 159, and increased special financing opportunities in the TBA market. However, analysts said that spreads to Treasurys could struggle if foreign demand rises while Treasury supply decelerates.
Application activity holds steady overall
Mortgage application activity was mixed, as expected, for the week ending April 27. According to the Mortgage Bankers Association, the Refinance Index fell 3.2% to 2015.8, pretty much erasing the previous week's gains. For the month of April, the Refinance Index averaged 2030, down nearly 8% from March's average of 2204. Mortgage rates over the period were relatively stable, averaging 6.18% in April versus 6.15% in March. A year ago, the Refinance Index stood at 1566 with the 30-year mortgage rate at nearly 6.60%.
The MBA reported a 4% increase in the Purchase Index to 427.3. This is the highest the index has been since the beginning of the year when it reached 473 and 440, respectively, in the first and second weeks of the year. For the month of April, the index averaged 412, which is little changed from March's average of 410. A year ago, the Purchase Index was just slightly higher at 433.
As a percentage of total applications, the refinance share declined to 41.5% from 43.4% previously. ARM share also continued to slide lower to 17.9% from 18.3%. As previously stated, this level is the lowest share since July 2003.
Fixed mortgage rates unchanged
As anticipated, Freddie Mac's weekly survey showed mortgage rates remaining steady from the previous week. In fact, 30- and 15-year rates were unchanged at 6.16% and 5.87%, respectively. A year ago, the 30-year rate was at 6.59% and 15-year rates were at 6.22%.
On the adjustable-rate mortgage side, both five-year hybrid ARM rates and one-year ARM rates slipped one basis point to 5.87% and 5.42%, respectively. Rates are down 34 and 25 basis points, respectively, from last year at this time.
With mortgage rates holding stable, application activity is expected to be steady or slightly higher in the MBA's report for the week ending May 4. The Refinance Index has shown very limited response to mortgage rate levels given the housing slowdown, stricter underwriting standards, and reduced subprime lending.
April prepayment reports were released last Friday after ASR's deadline. Prepayment speeds were projected to be flat in FNMAs and about 5% higher on average in GNMAs. While there was a two-day decline in the number of collection days in April compared with March, this was supposed to be offset by the further strengthening in seasonals and the increased refinancing activity in March.
Prepayment speeds for May are currently projected to increase about 10% to 12% based on a combination of a higher day count and an additional improvement in seasonals. June prepayment speeds are expected to be similar to May's report even with day count declining from 22 to 21 days from April to May.
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