[Update 1 adds European spread data.]
Yield spreads on agency mortgage-backed securities (MBS) narrowed to historic tights in recent months as prepay speeds increase at Fannie Mae (FNM)
and Freddie Mac (FRE)
The factors pushing the trend are a combination of the federal program to buy agency MBS, solid demand from private investors, and a move at Fannie and Freddie to buy out delinquent loans, all which accelerate prepayment speeds.
Fannie Mae 4.5s, for example, are trading at +46bps to 10-year Treasuries, according to Daniel Leland, executive vice president of Dallas-based Southwest Securities Group (SWS)
. In Q207, before the onset of the economic recession, spreads were generally in the single digits for triple-A RMBS paper, but as recently as last week spreads showed an indication of narrowing further. The tightening may even fuel additional investments in agency collateral.
The Federal Deposit Insurance Corp.
(FDIC) placed its $1.8bn offering of structured notes
, which priced within 10 bps of guidance. One class of notes worth $1.33bn priced at 55bps over Libor, 10bps tighter than the +65 bps guidance
. The second class, $480m of notes, priced at 85bps over Libor, 5-10bps tighter than the +90-95 bps guidance.
Spreads in the US look favorable, even compared with the private-label market in Europe (chart source: SG Cross Asset Research):
As a board member of the Regional Bond Dealers Association
, Leland also runs the taxable fixed-income division at SWS. He says the tightening of spreads is common across collateral.
"All asset classes have been compressing across the board, whether it's in the credit arena or rates," Leland tells HousingWire
. "We're at pre-crisis levels, which puts us back before the fall of '07 on everything except non-agency mortgages, which are still a lot tighter than before but wide relative to everything else.”
The Federal Reserve
is winding down a program to buy $1.25trn of agency MBS
by the end of the month. The Fed "is still in the game" and actively buying agency MBS, Leland says, although there are only a few weeks left until the scheduled completion.
The industry for months has questioned whether spreads will blow out again once the Fed exits the agency MBS market, withdrawing its substantial weekly demand.
"Most people think it's a little crazy, as tight as things are getting right now," Leland says. "You would think, when the Fed quits their purchase program at the end of this month, with a big buyer leaving the marketplace, that spreads would widen, but I've been surprised just to see where we are currently."
Foreign investors and major US banks appear likely to maintain demand for agency MBS, even after the Fed's exit. Foreign investor appetite for agency MBS appears stronger than previously thought, according to commentary last week
from Credit Suisse
Banks’ demand for agency MBS should remain “strong” later this year, as the top 50 banks increased their agency MBS holdings by a total $108bn – or 17% – during 2009. Credit Suisse researchers found liquidity is rising at these banks as loan demand remains weak and the production of agency MBS increases.
In the meantime, both Fannie and Freddie have stepped up efforts to buy out loans 120+ days delinquent. Fannie said last week it expects to purchase from 150,000 to 200,000
delinquent loans out of single-family MBS trusts during March. Freddie said in mid-February it would buy "substantially all" of its $69bn
of 120+ day delinquent mortgages.
Write to Diana Golobay
Disclosure: The author holds no relevant investment positions.