According to a recently released report from Annaly Capital Management Inc., manager of a portfolio of mortgage-backed securities (MBS), a surge in refis has been seen as a result of historically low record rates. In the residential mortgage market, October prepayment speeds for 30-year Fannie Mae MBS increased three percent from the previous month from 24.9 percent to 25.6 percent Constant Prepayment Rate (CPR), and 30-year Freddie Mac MBS inched up two percent to 29.1 CPR. For Fannie Mae MBS, lower coupons experienced slightly elevated speeds once again with the CPR for Fannie Mae four percent MBS (Fannie 4s) up to 8.8 CPR from 8.0 CPR, 4.5s coming in at 22.8 CPR from the previous 21 CPR and 5s printing at 30.8 CPR, up from 29.8 CPR.
In contrast, higher coupon 6.0s and 6.5s were unchanged from the previous month, likely due to credit impaired borrowers being unable to take advantage of lower rates.
Prepayment behavior across the Freddie Mac stack was similar to that of Fannie with 4s up six percent to 13.4 CPR, 4.5s up eight percent to 26.5 CPR, 5s up two percent to 33.7 CPR, and 6.5s unchanged at 24.7 CPR. This prepayment report provides further proof that there are impediments to typical rate-driven voluntary prepayment activity.
While rumblings of QE2 may have started late summer, it was not until this month that further stimulus became fully priced in for the Nov. 3 Federal Open Market Committee (FOMC) meeting as the 10-year Treasury hit a one-year low in yield of 2.385 percent on Oct. 21.
Looking ahead, MBS investors will need to consider the effect the program on mortgage spreads and prepayment behavior.
First, it is unlikely that QE2, as currently contemplated, will include Agency MBS. Mortgage rates are currently at all-time lows, and buying more Agency MBS fits into the “pushing on a string” vernacular.
According to Nomura Securities, the 30-year Fannie Mae commitment rate (with no points) averaged 3.705 percent for the month of October, a record low. Moreover, current and future official buying of Agency MBS are unlikely given recent rhetoric from Federal Reserve members regarding their preference of keeping only Treasurys on the Federal Reserve balance sheet. Finally, as illustrated by the above graph, quite unlike in 2008 when the Federal Reserve purchased Agency MBS in the hopes of stabilizing the market and driving in spreads and thus mortgage rates, the spread between the current coupon mortgage and 10-year Treasurys are currently at or near their historic lows. Given this fact, further buying would likely be only marginally effective on spreads.
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