Bonds have experienced a sharp backup in rates since the beginning of October.  From October 3rd through the close of 10/17, the yield on the 10-year Treasury backed up 40 basis points.  The selloff was led by the long end of the curve; the 2-10 spread widened out about 40 basis points, while 5-10s has widened about 20 basis points.   (10s-30s has remained roughly unchanged over the same period.)  Realized volatility in the Treasury market has trailed off a bit, even though (looking at the standard deviation of daily changes over the last 40 and 60 days) it remains at its highest level since late 2009.  (As the name indicates, “realized” volatility refers to the measured volatility of actual price movements; this contrasts with “implied” vols that are a function of traded options markets.)

Despite the moderation in realized volatility, MBS have performed fairly poorly.  After tightening sharply after the Fed’s Twist announcement, the 30-year current coupon spread has drifted wider versus both interpolated Treasuries and swaps.  (The normal interpolation point for 30-year current coupons is the 5-10 blend, since it’s a fairly good match to the average lives of current-coupon TBAs.)  The widening is somewhat surprising, in that the moderation in market volatility should support MBS valuations.  One interesting thing to note is that the options markets have not followed suit with the moderation in realized vol.

This is especially true in looking at different maturity options.  The chart below shows annual volatilities in the swaptions market (i.e., the market for options on swaps, a relatively liquid market for fixed-income options).  What’s interesting is that while the pricing on the 10-year benchmark swaption has remained relatively steady, there’s been a big move in the valuation of 5-year swaptions.  This may have been a factor in pushing MBS wider; since faster prepayment speeds shorten MBS cashflows, the uptick in intermediate-maturity vol make it more expensive for investors to buy back some of the exposure to volatility inherent in MBS.
 


No one in the industry needs me to remind them of the issues being faced by originators with the impending departure from Correspondent lending of some very major players.  In retrospect, the Bank of America departure is consistent with their general strategic plan, which they’ve publicly expressed, of serving their customer base.  Unlike Countrywide Financial (from whom they inherited the Correspondent business after the 2008 acquisition), B of A doesn’t care at all about market share in the mortgage sector.  It’s unfortunate that they couldn’t be more patient in attempting to find a buyer for the unit, but unfortunately time is not on their side.

Unlike B of A, MetLife does have a bit of time to find a buyer for its unit, which is also for sale.  According to what I’ve read, MetLife’s departure is primarily due to regulatory issues (e.g., continued Dodd-Frank uncertainty), although they’ve also found the idea of cross-selling mortgage and insurance products a dubious proposition.  Taken together, the general trends in the correspondent business are for a more fragmented market, with pricing driven more by regional and institution-specific factors that by the offerings of a handful of mega-players.  It’s not clear whether this bodes well for operational issues; while a fragmented market typically is typically less efficient, B of A certainly was not known for its operational proficiency.

This week’s housing reports include the closely-watched numbers for Existing Home Sales, as well as for the NAHB Housing Market Index and Housing Starts.  After a sharp rise of 7.7% in September, October’s Existing Home Sales report (due out on Thursday) is expected to show a small decline, seasonally-adjusted.  According to the National Association of Realtors, the September increase indicated that investors “were more active in absorbing foreclosed properties.” This is helpful, but huge numbers of distressed properties remain in the pipeline, which will continue to pressure prices and the markets in general.

Good luck…and have fun.

Bill Berliner, Banc of Manhattan Capital - Profile
Banc of Manhattan Capital is an affiliate of Bank of Manhattan N.A. None of the information herein was prepared by or has been endorsed by Bank of Manhattan and does not constitute a solicitation for bank services. Banc of Manhattan Capital is a registered FINRA member Broker Dealer. This material was produced by a Banc of Manhattan Capital strategist and does not constitute investment research. It is neither an offer nor a solicitation to buy or sell securities. Any statements herein should not be construed as advice regarding individuals’ housing investments or mortgage debt. Information upon which this material is based was obtained from sources believed to be reliable, but has not been verified.