Monday, May 16, 2022

Bond supply surges as low mortgage rates trigger refinancing


At the end of June, the gross supply has reached £0.92 trillion (US$1.2 trillion), compared with the average £0.99 trillion (US$1.3 trillion) per annum in the last decade

A deluge of supply has inundated the agency mortgage-bond market this year, as a plunge in lending rates triggered a wave of homeowner refinancings. But there are signs that relief may be forthcoming.

Gross supply as of the end of June has already reached £0.92 trillion (US$1.2 trillion), a torrid pace considering the last decade has averaged £0.99 trillion (US$1.3 trillion) per annum.

The 30-year mortgage rate has repeatedly hit record lows since the end of the first quarter – it reached 2.88% on Thursday.

Federal Reserve policy, which lowered interest rates back to zero and resumed quantitative easing due to Covid and the subsequent lockdowns, has certainly been a contributing factor.

The Fed has bought mortgages at a blistering pace. Between March 16 and the end of June, the bank added almost £601.66bil (US$788bil) to its balance sheet.

As total gross supply from March through June was £690.99bil (US$905bil), this helped sector spreads tighten back to levels seen before the pandemic.

Most of this torrent of supply can be attributed to refinancings, as American homeowners take advantage of rates that, from a historic point of view, are low. But refinancings mostly shift the balance of a loan from an old to a new mortgage pool.

Net supply, which comes primarily from new and existing home sales – where the latter is sold at a higher price than its last sale –is not out of line with recent annual norms.

The supply of new single-family homes is not what it used to be, with the last decade seeing the lowest level of building since at least the 1950s.

In consequence, even record low interest rates have failed to jolt net mortgage supply. So while Bank of America Corp recently increased its 2020 net supply forecast to £198.52bil (US$260bil), this is still right in line with the annual average of £200.04bil (US$262bil) seen over the past four years.

Two leading indicators hint that the refinancing wave may be peaking – the Mortgage Bankers Association’s refinance index and the average size of a newly refinanced loan.

Both are in a downward trend. The average size of a refinanced loan has dropped to £231,882.54 (US$303,700), down 18% from its March 6 peak of £284,107.65 (US$372,100) and below the trailing one-year average of £242,113.78 (US$317,100).

Meanwhile, the refinance index dropped 6.8% for the week ended July 31, and is down 43% since hitting a year-to-date high on March 6.

There is good relative value in the MPL and Timeshare sectors, according to John Kerschner, head of U.S. securitixed products at Janus Henderson Investors, as both have fairly high-quality credit borrowers, short WALs and BBBs pricing in the low 300s to 400.

Getting double the spread in MPL and Timeshare versus Subprime Auto at the same rating, even with the liquidity give-up, makes sense to us, he said.

In CMBS, spreads have mostly continued narrowing from the March blow-off but with much of the outperformance further down the capital structure, according to Chris Sullivan, chief investment officer at the United Nations Federal Credit Union.

He said, risk has been supported by record low interest rates, the promise of further monetary and targeted fiscal expansion and improving investor sentiment. We’d expect this flattening of the capital structure to persist, barring some policy error or unforeseen shock, encouraged by an ongoing search for yield by an expanding set of investors.

GM Financial and World Omni are expected to sell prime auto ABS next week, while Stonebriar Commercial Finance is said prepping an equipment-backed trade and Ocwen plans a servicer advances transaction.


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