MBS Spreads to Widen, Rates to Rise in 2010: Smith Breeden
Although demand should keep asset-backed securities (ABS) spreads tight into Q110, wider spreads in mortgage-backed securities (MBS) will follow the Federal Reserve's exit of a major MBS purchase program in 2010, according to bi-monthly commentary by global asset management firm Smith Breeden Associates. Agency MBS performed strongly in October, as the Fed continued buying up MBS from Freddie Mac (FRE), Fannie Mae (FNM) and Ginnie Mae. Performance in the highest coupons lagged under concerns arising from increasing involuntary prepayment speeds. "As usual, the largest buyer during the month of October was the Federal Reserve. Banks joined in the fray as buyers after having reduced agency MBS positions last quarter to take profits," wrote Timothy Cuneen, a principal at Smith Breeden, in the e-mailed commentary. "It is likely that the banking community will continue to be net buyers of agency MBS," Cuneen added. "They are generally sitting on a lot of liquidity, and mortgages offer a liquid, low risk-weighting security with positive carry over their low cost of funds. On the other side, origination levels have come off significantly since this spring despite mortgage rates remaining low." Despite some short-term positive signs for MBS, early 2010 will see spreads widen and rates increase as the Fed ends its agency MBS-purchasing program, according to Smith Breeden. Another federal program is just beginning to pick up. Public-Private Investment Program (PPIP) managers began buying residential MBS this month after closing initial rounds of funding. Six PPIP managers raised $3.5bn in private capital, which combined with the equity and debt provided by the Treasury Department wields $14bn in aggregate buying power. On the consumer ABS side, the Term Asset-Backed Securities Loan Facility (TALF) for newly issued commercial MBS is also just starting to pick up with requests for nearly $72.25m of federal loans to buy new-issue CMBS. Issuance of TALF-eligible securities had fallen in recent months as issuers are able to issue new securities outside the program's help, according to Smith Breeden. TALF investors are exiting positions with "extraordinary gains" sometimes in excess of 50%, according to Jeffrey Wheeler, another principal at the firm. Write to Diana Golobay.