Rumors that Lehman Brothers Inc. and Salomon Smith Barney will be changing their mortgage-backed securities indices to exclude Fannie Mae and Freddie Mac MBS have created a buying trend for Ginnie Mae securities this week. However, Lehman was quick to dispel the rumor.
“Lehman has stated that they will not change their MBS index to exclude MBS repurchased by the GSEs, nor will they exclude MBS used in CMOs,” said Greg Rosenberg, MBS researcher at J.P. Morgan. However, Salomon has circulated a memo that they are contemplating the change, though Rosenberg thinks it is unlikely to happen.
“And that might be one of the reasons that Ginnies are doing well,” said Art Frank, head of MBS research at Nomura Securities. “Because if you did that, you would diminish the amount of Fannies and Freddies in the indices compared to Ginnies.”
“These rumors have been part of the impetus for the strong performance of Ginnie Maes relative to conventionals over the last week,” added Rosenberg.
For Lehman or Salomon to exclude the GSEs, Fannie and Freddie would have to reveal to the index houses “exactly what they own in terms of coupon and origination; they have to reveal their holdings for that to happen,” said Frank. “But that’s not to say that in the future that might not happen.”
One of the other drivers of Ginnie Mae performance last week has been the purchase of Federal Housing Administration loans by the Federal Home Loan Banks as part of their Mortgage Partnership Finance Program and its implications for Ginnie Mae issuance. “I was not sure these purchases had the potential to become a large part of the market. It appears that they can,” Rosenberg said. “The MPF program ceiling should be lifted next month.”
The MPF also provides competition for Fannie Mae and Freddie Mac. “I suspect this program will grow very rapidly,” Rosenberg said. “We all know that there are very big economies of scale in managing fixed-income portfolios. It should be very interesting to see how the agencies respond.”
Those Boomeranging Spreads
In an unusual move this week, mortgage spread volatility followed the ups and downs of the stock market. As the market fell, spreads widened, and tightened again as the market rallied.
However, Frank said that had more to do with mortgages following the swap market, rather than the equity market. “It’s not that mortgages are directly tracking stocks; it’s that mortgages are tracking swaps and the swap market has their eye on the stock market, on the equity market,” he said.
The current coupon spread widened to 171 basis points, which is the widest they have been since last August. “And then we snapped back in” as the Dow climbed almost 500 points. “And that brought swap spreads back in and that brought mortgage spreads back in,” Frank said. He also noted that the 10-year swap rate had closed at 112 last Wednesday, its widest level since the post-crash period of 1987.
David Montano, head of MBS research at Credit Suisse First Boston, said that for those who are still concerned about widening spreads, it might be a good idea to consider long weighted-average-maturity discount interest-only pieces. “Trust IOs have been trading in-line with swaps and agencies and represent an excellent way of shorting spreads while adding carry – selling convexity,” he said. “They are also currently trading about two points below historical prices at current levels of mortgage rates.”