Prepayment Speeds Slowing Down in 2022
This year’s run up the coupon stack has led to the destruction of both purchase supply and refinance demand, which has drastically reduced prepayment activity. The Fed’s QE4 created a refinance bonanza in 2020 and 2021, but with the Fed leaving the MBS purchase space next week for the foreseeable future, that party is over. Treasuries in August faced their biggest monthly losses since April as the Federal Reserve resolved to stay hawkish.
As 30-year mortgage rates have risen to around 6%, essentially the entire universe of homeowners is out-of-the-money. According to Bloomberg’s Collateral Performance Research data, $7.6 billion out of $4.4 trillion, or 0.2%, have refinance incentive of 50 BPS or more. Higher coupons are seeing the largest drop off in speeds as they join the lower coupon cohorts that have already fallen close to turnover CPR (the base rate of prepayment activity). The fastest speeds remain within the 4% and higher coupons of 2019 and older vintage, where home price appreciation has had time to lower LTVs and set up cash-outs.
Refinances Continues to Plummet, Home Prices Continue to Rise
Shorter amortization products are seeing a far steeper drop off than the 30-year space, typical amid a decline of refinance activity since 15-year loans tend to be a refi product. Net issuance of 15-year MBS declined $7.8 billion in August, the fifth consecutive monthly decline in the outstanding balance of 15-year MBS. Fannie Mae 15-year issuance is down 83% on the year, which is almost double the 43% decrease seen in Fannie Mae 30-year. Ginnie Mae 30-year, which wasn’t a central player in the lending boom of QE4, is down by 28%, while Ginnie Mae 15-year issuance is down 80%. There will likely be a lot less conventional shorter amortization product created going forward on a relative basis to 30-year product.
Elevated home prices also present a challenge to mortgage investors: The larger a homeowner’s loan is the more likely they are to refinance. Rampant home price appreciation from the past few years increases the chances that older vintage loans are more able to extract equity. New York is often notable for its relatively slow speeds because homeowners living there are subject to a myriad of fees and taxes whenever they refinance their mortgage. Yet, last month’s report shows them paying faster than both Texas and Florida among the 3.5% and higher coupons.
As 30-year mortgage rates have risen to around 6%, essentially the entire universe of homeowners is out-of-the-money.
Prepayment speeds for the overall Agency MBS market in August (8.4 CPR) have declined 56% since the end of last year and dropped 76% from the peak in March 2021. This report makes for nine down months out of the last twelve and keeps aggregate prepayment speeds at their slowest pace since March 2019. Conventional 30-year collateral prepaid at 7.6 CPR, Conventional 20-year MBS prepaid at 6.8 CPR, Conventional 15-year MBS prepaid at 8.3 CPR, and Fannie Mae Jumbo 30-year prepaid at 5.7 CPR. Ginnie Mae speeds (10.7 CPR) continue to pay faster than Conventional MBS, largely due to the 4% coupon and below.
August saw day count rise by three to 23 (though August’s 23 business days were three more than in July); September’s report should see day count drop by four to 19.
Securitization lags loan origination, which in turn lags rate locks. It has taken a few months for the issuance of higher coupon MBS to catch up with higher primary mortgage rates, but issuance of higher coupons continues to grow. In August, gross new issuance of both UMBS 30-year 4.5% ($26.3 billion) and 5% ($22.0 billion) coupons marked the largest monthly supply since July 2010. UMBS 30-year 4% totaled $16.5 billion, meaning that those three coupons now cumulatively compose 90% of total new issuance in 30-year collateral. The higher coupons have yet to ramp up their speeds, making for the most pronounced differential between high and low loan balance speeds. When refinance incentive arises, newly created loans are expected to respond with gusto.
We Wait as Fed Continues to Structure Balance Sheet Appropriately
Not much is expected to change over the rest of the year and seasonal effects should also weigh on prepayments, which means it is likely that specified pool pay ups will continue to weaken in the higher coupons. The fact that almost the entire universe of borrowers is out of the money is reflected in the near complete disappearance of prepayment speed differentials between loan balance spec pools. In the UMBS 30-year premium coupons (4.5% and 5%) the pay ups for loan balance pools have dropped between 15 to 30 ticks over the past month, depending on the specific loan balance pool.
Many experts expect mortgage companies to operate at roughly breakeven for the foreseeable future and that means MSR valuations can help you save the day. Don’t pay for what you don’t need. Prudence is warranted as we begin the opening act of the Federal Reserve’s latest QT and its third attempt to allow the mortgages on its balance sheet to roll off. MCT is excited for you to experience our new and improved MSR capabilities that were created to give you a more granular grid experience and provide you with other time-saving, efficiency-promoting features. Contact us to learn more.