Mortgages experienced active two-ways flows last week by fast-money, servicers, and real-money investors as yields continued rallying in the early part of the week. There was increased convexity buying, particularly from servicers. The mortgage portfolio duration shortening also attracted a wide variety of investors, stimulating interest in the lower part of the coupon stack. Walt Schmidt of FTN Financial said that the MBS Index's effective duration has decreased around a half a year to 3.09 from 3.56, and the market's convexity has worsened as well. Still, states Schmidt, convexity is not as bad as when the 10-year traded in the 4% to 4.4% range. He notes that the 5.5% coupon remains around 80 basis points out of the money to be fully refinanceable. While mortgage rates have rallied significantly in the past two weeks, the risks are still tilted towards extension rather then refinancing, Schmidt said.

There were also technical issues in FNMA 5s and 6s caused by the large Mega pool creation for April, which brought in demand for these coupons. Fannie Mae's monthly report disclosed that the FNMA 6% coupons total over $14 billion while FNMA 5s top $11 billion.

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