MBS RECAP: 1/31/2011

As has been the case all day, benchmark interest rates and MBS prices continue to move at the mercy of the stock lever. Reprices for the worse were reported earlier this afternoon but risks faded as stocks backed away from intraday highs. Unfortunately profit taking did not last in equities and MBS are suffering because of it. The FNCL 4.5 is back to the lows of the day. It is possible that some lenders may still reprice for the worse.

A second federal judge ruled on Monday that it was unconstitutional for Congress to enact a health care law that requires all Americans to obtain commercial insurance, evening the score at two-to-two in the lower courts as the conflicting opinions begin their path to the Supreme Court. Judge Roger Vinson of Federal District Court in Pensalcola, Fla., ruled that the law will remain effect until all appeals are concluded, a process that could take two years. However, Judge Vinson determined that the entire law should fall if appellate courts agree with his opinion that the insurance requirement if invalid. The judge’s ruling came in the most prominent of the more than 20 legal challenges mounted against some aspect of the sweeping health law, which was enacted last year by a Democratic Congress and signed by President Obama in March. The plaintiffs include governors and attorneys general from 26 states, all but one of them Republicans, as well as the National Federation of Independent Business, which represents small companies. Officials from six states joined the lawsuit just this month after shifts in party control brought by November’s midterm elections. In December, Judge Henry E. Hudson of Federal District Court in Richmond, Va., who was appointed by President George W. Bush, became the first to invalidate the insurance mandate. Two other federal judges put on the bench by President Bill Clinton, a Democrat, have upheld the law.

Standards on prime closed-end residential real estate loans were little changed, on balance, over the fourth quarter. In contrast, standards on nontraditional mortgage loans were reportedly tightened by about 15 percent of banks. The net fraction of banks tightening standards on nontraditional mortgage loans has now increased a bit for two consecutive quarters, after having fallen to nearly zero during the first half of 2010. Banks reported little net change in standards for, or the sizes of, HELOCs. Demand reportedly weakened somewhat, on net, for both prime and nontraditional closed-end residential real estate loans as well as for HELOCs. Reported demand for closed-end loans has now declined for two consecutive surveys after having increased during parts of 2009 and 2010.

Benchmark interest rates have stabilized after a visit back to the middle of the 5-week trading range (3.40%). A modest rates recovery bounce was sparked by profit taking in stocks which are now off intraday highs and looking to move lower. Reprices for the worse were reported but were not wide spread. If your rate sheet was not recalled, reprice risk is fading. We do remain defensive as stocks are still well in the green.

The U.S. economic recovery, while ongoing, still needs the support of supportive monetary policy, a Federal Reserve official said Monday. “There are definitely hopeful signs of sustained recovery in 2011,” and “much of the strength in the fourth quarter of last year has carried over into 2011,” and will prove sustainable, Federal Reserve Bank of Atlanta President Dennis Lockhart said. “Progress is real, but fitful, and support of accommodative Fed policy is still required,” he said. The rotation of regional Fed presidents means Lockhart doesn’t have a voting role on the FOMC this year — he will in 2012 — but in comments last year, the official indicated he was very much a supporter of the bond-buying policy, popularly known as QE2. The Fed is trying to engineer better levels of economic growth through the purchases, hoping the action will lower high levels of unemployment and bump inflation up and away from deflationary levels. The central banker was largely upbeat in his comments, although he said there are still a number of factors that could derail the rebound. “The appropriate outlook at this juncture is one of cautious optimism, avoiding overstatement of the likely speed of improvement,” Lockhart said. The official said “employment is nowhere near acceptable levels” and is being held back by too slow rates of growth, high rates of productivity, and “slower business formation.” But Lockhart also it was normal for hiring to pick up more slowly than the rest of the economy, and he said “I believe the employment situation will improve” as the year progresses.

Although production MBS coupons are outperforming their benchmark guidance givers, "rate sheet influential" MBS prices have fallen further and reprices for the worse have been reported. If you are nervously floating a short term deal and are sensitive to intraday volatility, we would advise locking up now to avoid broad based reprices for the worse.

Stocks are just off their best levels of the day and government bond yields are rising as a result. This has led "rate sheet influential" MBS prices to new session lows. Currently the FNCL 4.5 is bid at 102-07. Some lenders may reprice for the worse.

Among the five major lenders, conventional 30 year fixed loan pricing is on average 11.3bps better today. The largest rebate improvements are seen in the note rates used to fill 4.0 MBS trades (4.375 to 4.75%). Our reprice for the worse target is still 102-05, but we caution....With loan pricing marginally better and day over day MBS changes now in the red, some lenders may be quicker to reprice for the worse than others.

Stocks have broken overhead resistance and are moving higher. This has led to a modest reallocation trade in the bond market (flight to safety reversal) and consequently pushed "rate sheet influential" MBS prices lower. We are not at risk of reprices for the worse yet but if stocks extend their rally that risk will grow. We expect to see reprices for the worse as the FNCL 4.5 approaches 102-05.

Although trading volumes did pick up around 8:30 and 10AM data releases, there is an apathetic feeling in the air. There isn't much excitement to report in the bond market. We continue to watch the stock lever for directional guidance. If S&Ps break through 1276 resistance we should see rates move higher.