MBS Directional Update: Compelling Cases Presented
On Tuesday we issued a directional MBS alert because the bond market seemed to be in the midst of shift in its underlying technical bias, from bearish to bullish.
We cited several different motivations for the recent turn around in benchmark Treasury yields, production MBS coupon prices, and mortgage rates, but the headline grabbing explanation for the move was the actual headlines themselves. We explained it to consumers as so....
"Conflict in Libya and the potential for a spill over into other oil producing countries has energy traders nervous about shrinking oil inventories. The chance for a supply/demand driven spike in energy prices is seen as a threat to the already sensitive U.S. economic recovery. Many economists believe rising energy costs would squeeze disposable income on Main Street and hurt consumer spending, which would slow the economic recovery. This 'headline risk' had led stock prices lower and pushed money into safe haven assets like U.S. Treasuries."
To another audience, we might say the "flight to safety" caught a nervous short-base off-guard, which ultimately led to a momentum driven short squeeze aka a hint of "snowball buying" and a very modest shift in the real$ investor's par coupon /duration bias. Remember coupon rate dictates par price in the bond market, at a specific spot on the yield curve. The par coupon rate in 10s right now is 3.625%. 10 year yields are below 3.625%, so on the run Treasuries are trading at a premium (101-24).
Looking past the technicalities of the secondary mortgage market, the obvious explanation for this week's rally was a "flight to safety" into government bonds. And everyone wants to know if it's gonna continue. We can spin it however you want to hear it.
Emerging economies are using our established production resources to build their own. U.S. businesses are investing in innovation that improves productivity. Global manufacturing has rebounded quickly and boosted the domestic economic recovery in the process. Payrolls are growing steadily and jobless claims continue to fall. Adding fuel to the fire, stocks haven't stopped rallying since September and Consumer Confidence reports reflect it.
But then we come to Main Street. One might say the misery index is high on Main Street. Many folks are still battling suffocating debt payments. Some are working two jobs just to stay afloat. Others can't even find one. Fuel prices are getting more expensive and the cost to heat a home is rising . All the while, wage growth is lacking and demand pull inflation is missing. It's one big margin squeeze for the average American. But the wealthy seem to be doing dandy. (They've even begun dabbling in the housing market.)
Notice I didn't even mention the mess that has become the U.S. housing market... It's stagnating in a pool of its own filth. No one person in this industry knows what's coming next. We're a mess. Originators are totally focused on interpreting the 500 or so variations of new compensation reforms, but are totally missing the risk retention issue. This change will most likely push consumer borrowing costs higher more than any other pending reform, including whatever pain is inflicted by the GSEs and the updated loan servicing model. Making matters worse, there is no unified voice of common sense coming from the trenches. MBA, NAMB, NAIHP. All sending different messages to industry regulators. Loan producers, processors, underwriters, closers, shippers, secondary, appraisers....all need one unified voice! We're living in a reactive world, being proactive is like playing pin the tail on the donkey.
See. We can paint two very compelling pictures here. That means the best we can do is view the situation in its present form. We're still in the midst of a flight to safety. The yield curve has flattened. Technical momentum is leaning in our favor. And we're ending the week just below our 3.42% target in 10s and 101-28 target in FNCL 4.5s. Plus it doesn't sound like conflict is close to being resolved in Libya. Tensions are mounting across the Middle Eastern Arab Nations. This investing environment reminds me more and more of the first few months of 2010. It's like we're repeating history...
All signs of encouragement for an extension of the recent rally. But there is something more important that must be called to attention: The Best Execution 30 year fixed mortgage rate has hit a short-term floor.
On Thursday we announced that the "Best Execution" 30 year fixed mortgage rate had fallen to 4.875%. This takes us back to where we spent most of January. Remember the range? If you remember the range you should also remember the steep drop-off in loan pricing between 4.875% and 4.75%. There were a few days where the 4.75 float down made sense but for the most part, 4.875% at 0+0 was the best quote on C30 rate sheets. We've re-entered that range again. And it's going to take another 20-30bps move lower in benchmark 10yr yields before 4.625% is an attractive buydown again. We'll need to see FNCL/GNMA 4.0s trading over 100-15. Do you have the time to wait for it? LOAN PRICING EXAMPLE
Our guidance does not change. Same as Tuesday...
Plain and Simple: We are cautiously optimistic about lower mortgage
rates in the months ahead but remain quite defensive of the modest loan
pricing improvements that have been awarded since last Friday. This is
only a directional alert. We are in the midst of a potential reversal,
the move is still immature. More positive progress is needed to confirm a
shift in technical bias.
Over the next week you are floating for rebate improvements. We do not
expect another move lower in the Best Execution 30 year fixed mortgage
rate by the end of next week. In fact we wouldn't be surprised next week to see some push back against the recent rally in the bond market. Short sellers and profit takers will not give us easily. If losing a 4.875% BestEx quote is not something you're prepared to deal with...GUTFLOP GUTFLOP GUTFLOP
CHECK OUT OUR TECHNICAL TARGETS IN THIS POST <----MUST READ. FOLLOW THE EMBEDDED LINKS
ps....CAN YOU IMAGINE IF IRAQ TAKES A TURN FOR THE WORSE? WOULD WE RE-DEPLOY TROOPS OR LET ALL THAT HARD WORK UNFOLD? Budget builders won't be too excited about more war.
pps...just reading the Plain and Simple doesn't provide the proper prospective!