Tuesday, February 24, 2015

FLASH UPDATE: TRV Weekly Commentary - Rate Normalization?


TRV Weekly Commentary

Week Ending 18 Feb 2015



Comment:

We saw quite a bit of market activity this week pre and post FOMC minutes. The rates market continues to focus on the tone of the minutes to infer when a normalization cycle will commence. Investors and the sell-side community generally anticipate a summer rate hike that has caused the yield curve to flatten over the past year with higher short-term rates and a strong global relative value story on the US 10yr. The minutes this week, however, reflected that FOMC participants are inclined toward “keeping the federal funds rate at its effective lower bound for a longer time.” The dovish tone sent 10yr yields about 8 bps lower before ending the week 6 bps higher at 2.08%. Despite the action in the 10yr, the true story in rates is the 9 bps of yield curve steepening which is beneficial to the carry component of MBS.[1]

With 10yr yields backing up 6 bps, MBS outperformed the benchmark 3 ticks while slightly underperforming the swap curve. We are relatively neutral on the basis given our bullish stance on vol due to European headlines, low inflationary prices and increased uncertainty as to the timing of a rate normalization policy. If the curve reverses this week’s movement, we would anticipate down in coupon swaps to perform well and for specs to outperform TBAs on reignited refi fears and increased desirability of call protection.

That said, the refi index fell 16% this week to a point that lies 27% below January’s peak. Much of the decline is attributable to the bear steepening of the curve we have seen as of late. In addition, savvy borrowers have likely taken advantage of January’s sharp decline in mortgage rates, which should cause a decreasing rate of refi applications. The decline in the refi index and the bear steepening yield curve provided tailwinds to IOs this week. Benchmark IO 4s were particularly penalized in January’s rate rally and so we have seen this sector outperform other IO sectors. Vendor OAS shows this sector has tightened between 5 and 38 bps.

Regards,

Tradex Global Advisory Services, LLC
investorrelations@thetradexgroup.com 
203-863-1500
@Tradex_Global




[1] A steeper yield curve implies higher mortgage rates in the future, thus reducing prepayment expectations. We ran a FN 3.5 TBA using a live swap curve at the current market price and obtained an OAS of -5 and a long-term CPR of 13. We then re-priced the same bond with a 50bp steepening scenario and calculated an OAS of -27 and a long-term CPR of 8 that coincides with a 50-80 bp higher MBS current coupon.

Sunday, February 15, 2015

FLASH UPDATE: TRV Weekly Commentary - Rate Volatility Will Persist


TRV Weekly Commentary
Week Ending 11 Feb 2015



Comment:


The impressive US non-farm payroll headline defined the week’s risk-on tone and was the driving force behind the yield curve. January NFPs came in strong at 257 versus 228 consensus, but more noteworthy was the two-month payroll net revision of +147k. Yields soared with the 10yr ending the week 27 bps higher, equivalent to 78 ticks of price decline. Despite higher rates, vol remained stable.  We suspect this will be short-lived, as US headlines will likely take a back seat to geo-political concerns.

With the refi index printing 274 points lower, prepayment fears beyond the April print have subsided, leaving interest-only paper tighter. Benchmark FN4 IOs of 13, for example, narrowed 120 basis points. This is equivalent to an outperformance of 5.4%, erasing half of the January widening. To no surprise, up-in-coupon trades also performed extremely well. FN 4.5s outpaced the stack, having tightened 12 ticks versus the curve. Additionally, rolls strengthened into 48-hour day with FN 4.5s increasing 1.5 ticks. For now, the TBA market has been rate-directional. We would like to point out that convexity levels are much higher: investors need to be weary of both sharp sell-offs and rallies as convexity hedging may come into play. We are neutral on the basis for the time being given the asymmetrical risk.

This week, the market again viewed the world as riskless, as investors seemed to have forgotten about the global growth glut, declining energy prices and growing economic frictions within the Euro Zone. We note that we are one headline from a risk-off market, and even a partial reversal of this week’s rate movement could reignite refi concerns. Our view is that rate volatility will increase as we move closer to ground zero of the hiking cycle.

Regards,

Tradex Global Advisory Services, LLC
investorrelations@thetradexgroup.com 
203-863-1500
@Tradex_Global

Friday, February 6, 2015

FLASH UPDATE: TRV Weekly Commentary - Rates Approaching All-Time Lows

TRV Weekly Commentary
Week Ending 04 Feb 2015


Comment:
The rates market appears relatively calm on a week-to-week basis; we saw the curve bear steepen by 2 basis points with mortgages relatively flat versus the curve. Rates however whipsawed drastically around month-end with 10yr yields falling within inches of an all-time low. Swap volumes were running about 200 percent above average with flows skewed toward receiving across the curve. The catalyst for the market actively was largely a disappointing Q4 GDP print (2.6% versus 3.0% expectations) and Russia’s surprise decision to cut rates by 200 bps. The benchmark 10yr ultimately snapped back 11 basis points to yield 1.75% in the days following the turmoil.

Mortgages lightly underperformed rates across the coupon stack into month-end as origination picked up. We saw quite a few days of 3+ bln in issuance in tandem with low rates. Mortgages later rallied between a half to 2.5 ticks before ending relatively flat. We would like to point out that the G2/FN 4 swap fell drastically following the FHA’s announcement that it would reduce the Mortgage Insurance Premium (MIP) by 50 basis points. In our opinion, the swap was over chastened and has rallied 5 ticks from an intraday low of -17 ticks. We continue to follow the swap’s performance.

The refi index increased 2.5% this week despite recent declines in Treasury yields. The MBA 30 year mortgage rate decline a mere 4 bps, helping to suppress the refi index. The real refi story is that FHA refi applications picked up 76% on a seasonally adjusted basis due to the MIP decrease. The surge in applications is likely due to pent-up demand as servicers ramp up their solicitation efforts. We note that servicers are not at capacity as staffing levels are little changed from late 2012 when the refi index was much higher. Additionally, we would look to primary/secondary spread widening as early signs of capacity constraints, yet the spread has remained relatively range bound.

As the FHFA contemplates reducing principal on properties with depressed values as approximately 10% of homeowners have negative equity, policy risk remains high. Additionally, investors are also focused on a potential HARP extension. We estimate that $91 bln of loans have LTVs greater than 80 and have more than 100 bps of rate incentive. A year ago, that number was only $42 bln when Mel Watt said HARP extension was off the table. The HARP extension thus seems more plausible and would likely cause significant widening of eligible collateral.

The resulting increased refi risk continues to cause IO OAS to widen. The chart below shows that vintage is an extremely relevant as 3.5s of ’13 have a much higher risk premium than do 3.5s of ’12. We also note that 4s of ’13 continue to have the highest risk premium as they have the greatest rate incentive, are less seasoned and are less prone to refi burnout. The recent widening has presented significant opportunity in the space and we anticipate volatility and policy risk will continue to drive our markets.



Regards,

Tradex Global Advisory Services, LLC
investorrelations@thetradexgroup.com 
203-863-1500
@Tradex_Global

Monday, February 2, 2015

FLASH UPDATE: TRV Weekly Commentary - Vol & Refi Fears

TRV Weekly Commentary
Week Ending 28 Jan 2015



Comment:

The yield curve continued to bull-flatten post January Fed minutes in contrast to numerous 2014 projections. We interpreted the tone of the minutes as more dovish than recent months and point to “Market-based measures of inflation… have declined somewhat substantially” as evidence of the tone. We note that January’s statement replaced “somewhat further” with “substantially”, giving indication that the 2.0% inflation target may continue to run below mark. Investors agreed with our interpretation of the Fed’s statement as yield on 10yr Treasuries fell 7 bps to an intraday low of 1.70%.

The mortgage market was strong leading up to the Fed’s announcement, with lower coupons outperforming the 10yr by 7 1/8 ticks, and higher coupons outperforming by 4 5/8 ticks. This was largely due to rising yields and short-covering given the previous week’s weakness. However, the magnitude of Syriza victory in the Greek elections led rates between 3 and 5 bps lower. The Syriza party is known for anti-austerity sentiments that could potentially be damaging to the Euro Zone.

In the days leading up to month-end, rates dramatically fell and renewed refi fears. The refi-index shows no change this week due to how the week fell in the calendar. We expect an uptick in the index, however, as rates approach all-time lows. Rate volatility has spurred a significant amount of trading: about 9 billion of Agency derivatives went out to bid with ¼ not trading. “DNT” (did not trade) is an indicator of widening spreads and decreased liquidity as bids do not meet reserve levels. Post-HARP GN collateral fared the worst (-11%) given the 50 bp reduction in mortgage insurance premium while conventional TBA collateral was likewise hit hard (-8%). Benchmark IOs behaved as expected, widening between 40-100 bps depending on vintage. We expect continued opportunity in the sector as most derivative books are likely down between 5 and 8% unlevered, erasing a large portion of their 2014 gains. 

Regards,

Tradex Global Advisory Services, LLC
investorrelations@thetradexgroup.com 
203-863-1500
@Tradex_Global