With the 30-year fixed mortgage rate hitting another record low last week, the market is bracing for a serious pick-up in prepayment speeds. Rates fell to 5.79%, according to Freddie Mac's primary Mortgage Market Survey last week.
"If rates stay where they are right now into the middle of March, we would probably see prepayments on 6s and 6.5s in the April report top peak speeds seen in December," said Art Frank, head of mortgage research at Nomura Securities International.
Further, with mortgage rates where they were last Wednesday, Frank expected the Refinancing Index to move above 6000 for this week, where it hasn't been since the middle of November.
Additionally, that even though there is less dollar volume supply out there that is actually refinanceable compared to the prior refinancing peak, the percentage of the market that is exposed to a refinancing incentive is now relatively higher than it was prior to the January report, said other analysts. This reporting period (which reflected December activity) saw the peak in prepayments. The current percentage of refinancing exposure is another factor that would cause future prepayment speeds to accelerate even further.
Focus on the MBA Refi Index
The Mortgage Bankers Association (MBA) Refinancing Index is now and has been for several weeks at very elevated levels.
The Index rose to 5989.6 for the week ending Feb. 21 on a holiday-adjusted basis. This represents an approximate 10% rise from the 5438.1 level recorded the week prior. Without a half-day holiday adjustment, the Index actually dipped by about 1%.
According to analysts from Salomon Smith Barney, the Index would have increased to 6739 if a one-day adjustment had been considered for the President's Day bank holiday. This number would have been the third highest level on record. The analysts said that the correct adjustment would lie somewhere in between.
Although there is a substantial uncertainty over the holiday adjustment and the magnitude of the Index increase, the level of refinancing activity has spiked considerably. This increase is not surprising given the dip of 10 to 15 basis points in mortgage interest rates seen in February.
More telling is why it took so long for the Index to react. Researchers theorized that it took some time for the news of low mortgage rates to spread. The record low level of the Freddie Mac survey rate the prior Thursday may have actually helped to put mortgage rates in the spotlight. If the news of record low mortgage rates gets further disseminated by the media and word of mouth, this would most likely lead to increased refinancings going forward.
Last week's Index results have been the highest recorded since October 2002, Salomon researchers noted. It was also the eighth week in a row that the Index exceeded 5000, which is extremely high on a historic basis.
Slowdown in the March report
There is expected to be a slowdown in speeds in the March report (due to come out this Friday), which would reflect refinancing activity in February. Aside from day count, the expected dip would be the effect of the Holiday-related December slowdown in refi applications - there is a 45- to 60 - day lag between applications and closings, so those borrowers who applied in December would actually be reflected as February refinancing activity.
"We saw a little bit of slowing in January (February factor report)," said Nomura's Frank. "I think we are going to see a little further slowing in February- not very dramatic - three to four CPR slower in some of the fastest paying premiums and then March and April are expected to pick back up."
He does not expect March speeds to meet December's, but it will probably be a close call. As mentioned earlier, if rate levels stay where there are at least for two weeks, April would show the fastest speeds yet, Frank said.
Analysts from Lehman Brothers, on the other hand, expect that the January rebound in refinancing activity should be reflected in February prepayments thus counteracting a low day count as well as seasonally slower turnover. This would keep February prepayments in line with or slightly higher than January, analysts stated.
Despite divergent views on February prepayments, the Street agrees on one thing: Prepayments are here to stay, at least for the foreseeable future.
"The timing of this leg of the refinancing wave is somewhat less certain," analysts from Bear Stearns wrote. "We are now in the fourth month of near peak refinancing activity and we see little sign of a significant slowdown in prepayments before the middle of the year."
Bear expects speeds to moderate in February due to fewer business days, the extreme weather conditions and the longer lags that have developed because of lender capacity issues. Bear is predicting, however, that accelerations will resume starting with the March reporting period and peak by the end of the second quarter. This would be under a 5.85% constant mortgage rate assumption.
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