Yes Virginia, There Is A Situation Where MBS Can Improve And Lenders Reprice For The Worse!
1. Lenders Hedge.
In order to fulfill fundings and pay YSP lenders have to either sell MBS they have not yet originated (common) or buy MBS so they have enough to deliver in their settlement. There are myriad other ways a lender can hedge, but long story short, hedging is more expensive in this environment due to the fact that rapidly falling rates mean vast amounts of uncertainty with lock commitments and pull through. If a lender doesn't have a clear picture of what fundings will look like, then the only way for them to participate in the market without losing money is to pass the COST of that RISK on to you! Believe it or not, for this and the next several reasons, lenders ARE NOT using this time to "cash in" and "get while the gettin's good" to anywhere near the extent you might think they are. Whereas times like this are fantastic for borrowers and brokers, it can be hell on lenders depending on their structure. So that's the FIRST reason you're seeing lenders not coughing up as much YSP as you'd normally get given these MBS levels.
2. Cashing In and Getting while the Gettin's good...
Well duh... Of course, in the situations where a lender is NOT, in fact, getting burned with pull-through, or has otherwise hedged properly, AND has money to lend, sure, they could be giving you 4.25 at PAR, but why would they if no one else is? The lenders that are in that position are the ones that are pricing at the best levels in the market. If they can pull sufficient business in by just edging out the competition, why in the world would they cough up any more YSP than they have to to get the business? So the massive pack of back markers set the tone, and the nimble lenders manuever within a certain standard deviation of the rest of the market. Make sense? Econ 101. Price/demand function. Lenders will only lower their prices to the point of demand they can want and can handle. At a certain point in the demand function, as price improves to a market leading postion, demand is not going to get sufficiently higher for a given drop in prices. In other words, it doesn't make good financial sense. But FAR more important are considerations 3 and 4, which are based on the understanding this price/demand principle in that lenders CONTROL the amount of volume they do by where they set their rates.
3. Manpower...
Remember that whole mortgage meltdown? In many areas, mortgage related employment is down 75%. Recent increases in mortgage originations have far far far exceeded any increases in staff. They have to, really, since one cannot add staff until the business exists to do so. If staffs are overloaded, turn times can suffer to the point of damaging relationships, and quality can suffer to the point of costing more money than is being made by taking on incrementally more volume--that ever present concept of diminishing returns. So rates are raised to deter the business. That's pretty logical, but unfortunately it's probably the least germane point on this list despite being one of the most "heavily leaned-on" when it comes to explaining away this paradox. For something a little more substantive, let's turn to number 4.
4. No such thing as a free lunch...
Listen folks... I know this might come as a shock to some of you who have kept arguing with us on this, but lenders, and yes, even banks, do not simply have unlimited money to originate mortgages. <Gasp!> "But surely Matt, if they are making such wide margins between YSP and MBS prices, of course they could come up with more money if they were going to make more money!" <silence> No! They Can't! First of all, refer to point 1! "Huge margins" are an illusion until prepayment models become more reliable and a comfortable trading range for MBS is found. I double super secret promise! Second of all, all but the lucky few in this world are constrained by FUNDING. Most lenders are either operating with finite funding lines or cash-based allocations. The important word is FINITE! Funding lines are not the sort of thing that can simply be increased overnight, or because the lenders say "I double super secret promise I'll make money if you lend me some more!" Whether you believe it or not, it's true. So in exactly the same way as point 3 above, rates are raised as a control measure to not exhaust funding lines. This is why a lender might start the day off with killer rates and have a simply RIDICULOUS reprice for the worse with no warning AND with no losses in MBS.
<deep breath>
That's it for today. We'll add this to the knowledge base of the other blog posts in which we've refernced this and send you the e-book if you're still unclear. Please curtail the innocuous and perplexed lamentations and play with the hand that's dealt.