May Prepay Trend Surprises Analysts

Overall prepayment rates for mortgage-backed securities dropped 18.0% in May from a constant prepayment rate of 15.9 CPR to 13.1 CPR, defying analysts' expectations, according to Credit Suisse.

Writing in the "May 2008 Fixed Rate Prepayment Commentary," Credit Suisse researchers Mahesh Swaminathan and Chandrajit Bhattacharya reported that the results ran contrary to a consensus among analysts that speeds would be little changed.

"An anticipated boost from front-loading of June closings to avoid delivery fee increases did not materialize," the analysts said.

The speeds of 30-year 2006 and 2007 5.5%-6.5% coupons slowed 3-5 CPR, representing a 30% drop for 5.5s and 6.0s and a 23% decline for 6.5s, they reported.

The Credit Suisse analysts also reported that the estimated net issuance of fixed-rate MBS climbed from $48.5 billion in April to $67.4 billion in May, an increase of 39%.

The estimated net issuance of 30-year Fannie Mae and Freddie Mac MBS rose from $48 billion to $67 billion, while estimated issuance of 30-year Ginnie Mae securities grew from $11.7 billion to $14.5 billion, they said.

The analysts commented that the report "clearly highlights increased extension risk" and projected that if the response continues, "Servicers may further slow their models, potentially resulting in diminished duration buying in rallies and more duration shedding in sell-offs."

The Credit Suisse analysts projected that prepayments would decline further in June, with recent-vintage premium coupons falling 10%-12%.

In other prepayment-related news, Barclays Capital recently examined the tiering in regional speeds and concluded that "there is now a dramatic divergence in regional [home price appreciation] and, consequently, a shift in prevailing prepayment trends."

The Barclays analysts reported in the June 9 issue of Mortgage Market Outlook that California, Florida, Arizona, and Nevada have been hurt the most by the housing crunch.

"Previously, these states had elevated home sales and refinancing activity and, thus, faster speeds than the rest of the nation," they said. "Now, both turnover and refinancing activity have fallen to levels well below the national average."

Meanwhile, Texas, Utah, North Carolina, and Oregon are experiencing better housing conditions than those reflected in the national average, and therefore their prepayments are rising in relative terms, the analysts reported.

They advised investors to capitalize on these trends by buying MBS composed of loans from California, Florida, Arizona, and Nevada, predicting that the relative call protection of such securities will continue to improve.

"The decline in housing has fundamentally altered turnover and the ability to refinance, but this change has happened on an unequal basis across states," the Barclays analysts said. "As a result, prepayment trends have changed (and in many cases reversed) across states. Understanding these changes will drive relative value in the MBS market of the future." (c) 2008 Mortgage Servicing News and SourceMedia, Inc. All Rights Reserved. http://www.mortgageservicingnews.com/ http://www.sourcemedia.com/