MBS Weekly Market Commentary Week Ending 7/12/19

Treasury yields mostly rose last week, although the front end of the yield curve rallied modestly after fairly dovish testimony from Fed Chairman Powell.  While the 10-year yield rose by almost 9 basis points to close the week at 2.12%, the yield on the 2-year note actually declined by 1.5 bps.  This left the 2-10 year spread wide by 10 basis points week/week after moving inside +16 bps last Tuesday, before a selloff in the intermediate and long end of the curve later in the week.

*The MBS Weekly Market Profile Report corresponds to the commentary below.*

MBS performance ended the week on a decidedly mixed note.  While the 30-year Fannie current coupon spread over Treasuries widened by 6 bps, the cumulative (5 day) duration-adjusted performance of Fannie and Ginnie II 3.5s and higher was strong, ranging from +3/32s (for Fannie 3.5s) to +9/32s for Fannie 4.5s.  Lower 30-year coupons struggled, however, as Fannie and Ginnie II 3s trailed the 10-year note by 4 and 7 ticks, respectively.  Not surprisingly, a number of coupon swaps moved sharply wider—the Fannie 3.5/3 swap expanded by 10/32s, while the GNII 4/3.5 swap widened by almost a quarter-point.  Class A notification came and went without any noticeable dislocations, with no repeat of the June spike in the conventional 3% roll.  (The Fannie 3 roll in June spiked to 7+ ticks on notification day in June, reflecting a short squeeze in the coupon.)

In fact, dollar rolls remain at multi-year lows, reflecting the poor carry obtainable for MBS in the current environment.  In fact, the Fannie 4 and 4.5 rolls are both trading at negative drops, which suggests that it costs investors money to hold MBS as an investment, a condition normally seen only in commodities markets.  (For example, holding physical commodities such as oil incurs storage costs but doesn’t garner interest or dividend payments, so prices on forward contracts normally rise for future settlement, a condition known as contango.)  Weak rolls have impacted the strategies of both investors and originators, making buy-and-hold strategies less effective while hedging becomes cheaper.
There are several factors weighing on dollar roll levels:

  • Relatively high dollar prices;
  • Expected faster prepayments; and
  • High funding costs.

All three of these factors stem from the current unusual state of the money and fixed income markets, where money market rates (such as 1-month LIBOR) are substantially higher than intermediate Treasury yields.  (At this writing, assumed funding costs are around 2.5%, while the US 10-year note yields less than 2.10%.)  The relatively low level of intermediate rates means both MBS prices for most coupons are significantly over par and prepayment speeds are expected to increase.  This means that investors holding MBS over month-end are accepting greater unscheduled principal payments which in turn have an increased cost as dollar prices rise.  (For example, when Fannie 3.5s were trading around par in March of this year increased prepayment speeds didn’t significantly impact carry and thus roll levels, since the cost of accepting greater principal payments was minimal.  However, a 15% CPR assumption when the coupon is trading at 102 means that the investor holding MBS pools is accepting a 2-point loss on about 1.5% of the principal value of the position every month.  This assumption is reflected in roll prices, since TBAs serve as a derivative alternative to actually holding the securities.)

The other factor, which is even more significant, is that elevated funding costs (resulting from relatively high money market rates) eat into investors’ carry.  Taken together, these factors limit the economic benefit of either holding MBS pools or buying and rolling TBAs.

The interaction between these factors can be seen in the accompanying tables, which show break-even (i.e., economic) roll values for Fannie 3.5s at different price levels given varying funding and prepayment assumptions.  The tables suggest that the biggest factor in capping roll levels is the current high cost of funding; with Fannie 3.5s over 102 every 50 basis point increase in funding costs results in over a tick drop in the break-even roll level.   Combined with expensive funding, the higher dollar prices and faster prepayment assumptions for Fannie 4s and 4.5s in turn have pushed their roll break-evens below zero.

The low level of rolls, reflecting the poor carry available for the MBS product, probably won’t reverse unless and until the Fed substantial cuts the funding target rate later this month and in the fall. This will hopefully push money-market rates down to more normal levels relative to Treasury yields. Click to Enlarge

About the Author: Bill Berliner

As Director of Analytics, Bill Berliner is tasked with developing new products and services, enhancing existing solutions, and helping to expand MCT’s footprint as the preeminent industry-leader in secondary marketing capabilities for lenders.

Mr. Berliner boasts more than 30 years of experience in a variety of areas within secondary marketing. He is a seasoned financial professional with extensive knowledge working with fixed income trading and structuring, research and analysis, risk management, and esoteric asset valuation.

Mr. Berliner has also written extensively on mortgages, MBS, and the capital markets. He is the co-author, with Frank Fabozzi and Anand Bhattacharya, of Mortgage-Backed Securities: Products, Structuring, and Analytical Techniques, which was named one of the top ten finance texts in 2007 by RiskBooks. He wrote and edited chapters for The Handbook of Mortgage-Backed Securities, The Handbook of Fixed-Income Securities, Securities Finance, and The Encyclopedia of Financial Models. In addition, Mr. Berliner co-authored papers published in The Journal of Structured Finance and American Securitization. He also wrote the monthly “In My View” column for Asset Securitization Report from 2008-2012.

10-Year Treasury Yield Curve

Compare this chart with the mortgage rates chart to see how the 10-year treasury and mortgage rates are correlated. Read more below to learn how mortgage rates are tied to the 10 year treasury yield. View raw data on U.S. Department of the Treasury website.


Mortgage Rates Today

The current MBS daily rates are shown below in this chart for 5/1 Yr ARM, Jumbo 30 Yr, FHA 30 Yr, 15 Yr Fixed, 30 Yr Fixed. Sign up for our MBS Market Commentary to receive daily mortgage news in your inbox.

About the Author

Robbie Chrisman, Head of Content, MCT

Robbie started his mortgage industry career with internships during high school and college at Peoples National Bank in Colorado, and RPM & Bay Equity in the San Francisco Bay Area. After graduating from The University of Texas at Austin with a degree in Finance in 2014, he went to work at SoFi, where he rose to Director, Capital Markets assisting in the creation of SoFi’s residential mortgage division before leaving to work for TMS in Austin, Texas. From there, he went to work for FinTech startup Riivos in San Francisco and now is the Head of Content at Mortgage Capital Trading (MCT) in San Diego.

 Join Newsletter or Follow MCT on Social Media:

Previous Weekly Market Reviews by Mortgage Capital Trading (MCT)

Sign up for daily mbs market commentary and review previous commentaries by visiting our commentary category page. Join our email list for further MBS market news, subscribe to receive educational articles, whitepapers, relevant updates, and mortgage market commentary. 

MBS Weekly Market Commentary Week Ending 1/27/23

Even with the most aggressive pace of rate hikes in over a generation during the past year, recent data suggests that there’s still a path to a “soft landing” for the Federal Reserve. The U.S. economy posted the kind of mild slowdown in the last quarter of 2022 that the Fed wants to see as it attempts to tame inflation without choking off growth. Gross domestic product beat expectations to rise at a 2.9% annualized pace, down from 3.2% in the third quarter and a long way from a recession.

MBS Weekly Market Commentary Week Ending 1/20/23

Have you heard? Inflation was so 2022. All jokes aside, after we learned last week that U.S. inflation cooled for the sixth consecutive month (the consumer price index dropped 0.1% in December compared to the month prior), expectations are now that the Federal Reserve is likely to downshift rate hikes to 25 BPS going forward, beginning at next month’s FOMC meeting.

MBS Weekly Market Commentary Week Ending 1/13/23

Pay attention to the bond market rather than the Fed. That’s what I’m hearing as we learned this week that inflation continued to ease in December, though much focus was also on Wells’ exit from the correspondent space and its ramifications. The headline CPI (-0.1% month-over-month, +6.5% year-over-year) posted the slowest inflation rate in more than a year and core inflation (+5.7% year-over-year), which excludes food and energy, also posted the smallest advance in a year.

MBS Weekly Market Commentary Week Ending 1/6/23

While it’s back to business as usual, it was a fairly quiet week as we settled into the new year. Fast inflation and high interest rates dominated the narrative and upended markets across the world last year. When the dust settled, 10-year Treasuries were 200+ BPS higher than the start of the year, the curve inverted in a bearish fashion faster and farther than ever, implied volume spiked, and mortgage spreads were pushed from stubbornly rich to suddenly cheap. The result was an entire trade-able universe moving out of the money, originations grinding to a halt, and duration becoming a function of illiquid trade flows.

MBS Weekly Market Commentary Week Ending 12/23/22

MCT would like to wish everyone a Merry Christmas and Happy Holidays. Talk to close the year has been dominated by the Federal Reserve’s most aggressive policy tightening in four decades and its impact on the economy, and for us the residential housing market.