Prepayment Rate Slips Despite Rate Dip

Prepayment rates on 30-year fixed-rate mortgages in agency mortgage-backed securities declined by 11% across the board in September, according to Bear Stearns & Co.

Speeds on 2006 originations remained "relatively unchanged," while more-seasoned cohorts recorded a 10% to 15% decline, said Bear Stearns senior managing directors Dale Westhoff and V.S. Srinivasan.

The analysts said a three-day decline in business days from August's calendar more than offset a 20-basis-point rally in rates.

Aggregate prepayments on 30-year Fannie Mae collateral fell from a constant prepayment rate of 11.5 CPR in August to 10.4 CPR in September, compared with a decline from 10.5 CPR to 9.1 CPR for Freddie Mac collateral, the analysts reported.

Premium coupons recorded a "very modest" response to the rally in mortgage rates, as speeds on Fannie Mae vintage 2006 6.5s fell from 13.2 CPR in August to 12.8 CPR in September. "This report confirms the view that when the majority of the mortgage market is a discount, even premium cohorts are not very sensitive to changes in rates," the Bear Stearns analysts said.

Meanwhile, 30-year Ginnie Mae speeds declined by 13% and overall Ginnie speeds fell from 15.9 CPR in August to 13.8 CPR. The speeds of 2005 and 2006 vintages ranged from flat to slightly higher, while those of 2003 and earlier recorded slowdowns of 15% to 20%, the analysts reported. "Consequently, the 2005 vintage which until recently was paying slower than conventionals is now starting to pay faster," they said.

The Bear Stearns analysts highlighted the behavior of discount prepayment rates, which they said had converged for 2003 and 2004 vintages but continued to be slower for the 2005 vintage.

"We expect this trend to continue," they declared. "Homeowners with less than 24 months of tenure in their property pay capital gains tax on any profits from the sale of the house." But the tax liability falls "dramatically" for homeowners with tenures longer than 24 months, the analysts explained.

Therefore, in times when home prices appreciate rapidly, "discount speeds on purchase loans increase by 3-4 CPR after 24 months," they said.

In other prepayment-related news, a recent Moody's Investors Service analysis of alternative performance "triggers" in home-equity securitizations found that more robust triggers can better protect investors if a deal is experiencing worse-than-expected performance.

Most home-equity deals now include a cumulative-loss trigger and a delinquency trigger. "However, to circumvent some limitations of these conventional triggers, such as reduced effectiveness amid high prepayment scenarios, issuers of residential mortgage-backed securities have begun investigating the use of alternative performance triggers," Moody's reported.

The rating agency said it tested the performance of various alternative triggers, including ones based on pipeline losses, cumulative losses (linked to constant prepayment rates) and net excess spread, as well as a so-called hard-delinquency trigger.

"Moody's testing of past home equity securitizations shows that deals incorporating either the pipeline-loss or CPR-based cumulative-loss trigger could have potentially exhibited less ratings volatility than deals without," said Moody's analyst Deepika Kothari. "The pipeline-loss trigger proved to be the most robust, followed by the CPR-based cumulative-loss trigger."

The CPR-based cumulative-loss trigger accounts for faster prepayments by decreasing the cumulative-loss threshold if actual prepayments in the deal exceed expected prepayments, Moody's said.

The rating agency's findings are detailed in a recent report titled "U.S. RMBS: Evaluating Alternative Performance Triggers." (c) 2006 Mortgage Servicing News and SourceMedia, Inc. All Rights Reserved. http://www.mortgageservicingnews.com http://www.sourcemedia.com