Extend Those Durations, Mortgage Maxx Warns MBS Investors

Prepayment data service Mortgage Maxx AFS warned MBS holders last week that prepayment rates should sag over the summer — and through year end, as well, if expectations for higher mortgage rates are met. “Mortgagors are having a hard time seeing the Fed’s alpha this easing cycle,” said Paul Descloux, Mortgage Maxx AFS chief, pointing out that the majority of loans made since 2003 have no incentive to refinance at current rate levels. Tougher credit standards and falling asset values provide further drag on prepayments activity, he said in a note to subscribers. Despite recent claims to the contrary, Descloux noted that affordability — another key determinant of housing/mortgage activity — has stagnated in the past few months with rising interest rates. The best known index of affordability, published by the National Association of Realtors, supports his assertion: as of April, affordability was off 4 percent assuming fixed rate financing (and 5 percent on an ARM basis) from February peaks. The effect of rising rates and stagnant affordability is already being seen in the rate of satisfactions/cancellations on orders for title searches, according to Mortgage Maxx AFS data: in short, satisfactions close, cancellations don’t. The company’s data show that the rate of purchase satisfactions has improved since late winter from a low of about 17 percent to 25 percent currently, while the rate of refinancing satisfactions has been slipping in recent weeks, and is now below 20 percent. The result is a stubbornly high cancellation rate overall, around 55 percent in total. That’s down from a peak of about 65 percent over the first quarter, but still far above the 38 to 42 percent range typical back in 2006. “During a refi wave — when everyone is trying to lock in — you’ll get about a 70 percent close rate on the title orders,” Descloux said. “That almost reversed in the fourth quarter.” Such high cancellations mean that measures of loan application activity are prone to overstate the actual likelihood of prepayment from a refinancing or home sale; the trend “portends a lower CPR response to initial mortgage applications,” Descloux said. Mortgage Maxx mines loan application, title search orders, grant deed and other mortgage/housing data, the company’s Advance Factor Service (AFS) gives agency/GSE traders and investors a look into prepayments over the near term — the blind spot of traditional prepayment models, which are more useful for longer horizons. Editor’s note: Duration is a bond investor measure of the period over which principal is returned. The longer the period, the longer the duration and the more sensitive bond price is to immediate changes in interest rates, so that duration also measures of price sensitivity with respect to interest rates.

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