Last week's MBS flows started off slowly, but a lack of subprime tape bombs and improvement in rolls and financing helped improve production as the week progressed.
Tuesday's return from the Columbus Day holiday saw slightly below normal flows as investors waited for release of the FOMC news later in the day. Treasuries were higher throughout the day until the release and then sold off as it appeared the Fed would likely stay on hold at the late October meeting.
Currently, odds are just 32% that the FOMC will cut 25 basis points on October 31, but increase to 100% for a cut in February. Buying interest was seen from money managers and hedge funds focused in the belly of the stack (5.5s and 6s).
Flows picked up Wednesday with fast money selling in 6.5s and 6s and moving down in coupon into 5.5s, totaling over $4 billion. There was also some active convexity related to selling in 5.5s (around $2 billion), as the rate back up is forcing some duration-related selling.
Overseas markets quieted, after Japanese investors made brief appearances on Monday and Tuesday morning. Originator selling was running about average in the first half of the week with supply focused primarily in 6% coupons.
Last Tuesday was also pool allocation in Class A (30-year Fannies and Freddies). FNMA and Gold 6.5 and FNMA 7 rolls all traded special, while other rolls were said to have cleared inside of LIBOR.
In the past few months, rolls traded cheaply to funding levels and were a drag on the MBS sector.
MTD through October 9, Lehman's MBS Index has outperformed Treasurys by 35 basis points. The sector is leading ABS by five basis points, and CMBS by 33 basis points, but it lags corporate bonds by 59 basis points, as recent adverse credit conditions appear to be settling down.
Housing Market Update
* On Wednesday, U.S. Treasury Secretary Henry Paulson and Housing and Urban Development Secretary Alphonso Jackson announced an alliance of mortgage servicers, mortgage counselors, investors and trade organizations to help homeowners keep their homes. The partnership is called "HOPE NOW." Secretary Paulson stated in a press appearance that the group "has put together an aggressive plan to reach more homeowners and help them find a way to stay in their homes."
* Standard & Poor's chief economist, David Wyss, predicted that subprime losses would not peak until 2009. He estimates defaults will be between $100 and $150 billion.
* The National Association of Realtors' latest forecast predicts improvement in the housing market next year as conditions in the mortgage market improve. Existing home sales are expected to total 5.78 million in 2007 and then rise to 6.12 million in 2008. Meanwhile, new home sales are called at 804,000 this year and 752,000 for 2008.
The NAR says they don't expect a recovery in new home sales until the spring. At the start of the year, the NAR pegged existing home sales for 2007 at 6.42 million and new home sales at 957,000. The median home price on existing homes is forecast to decline 1.3% to $219,000 in 2007, and recover the loss in 2008 to $221,800.
The median new home sales price is predicted to fall 2.1% to $241,400 this year, and increase 1% in 2008 to $243,900. They also anticipate higher mortgage rates averaging 6.6% on the 30-year fixed rate in the second half of next year compared to an average
of 6.4% anticipated over the next two quarters.
The near term outlook, at least, appears supportive for MBS, according to market sources. Favorable factors include improvement in financing in the dollar roll market, decline in volatility, some richening in some of the cross sectors, and improvement in overseas sponsorship. There are concerns, however, of convexity related selling if the market continues to back up.
Mortgage Application Activity Picks Up
Mortgage application activity gained 2.4% overall in the week ending Oct. 5, on both a pickup in purchase and refinancing activity as mortgage rates improved slightly based on Freddie Mac's weekly survey. According to the Mortgage Bankers Association, the Purchase Index rose 2.1% to 420.2 and the refinance index was up 2.7% to 2003.2.
The MBA reported a mixed report on mortgage rates with 30-year fixed mortgage rates increasing 8bps to 6.40%, while one-year ARM rates fell by five basis points to 6.15%.
As a percent of total applications, refinancings were virtually unchanged at 46.2% compared to 46% previously. ARM was down slightly to 13.6% from 13.8%.
Currently, a slight decline is anticipated in refinancing activity in this week's MBA survey; however, activity as well as the adjustment is likely to be influenced by the Columbus Day holiday.
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