By the Numbers
Prepayment speeds move slower in July
Brian Landy, CFA | August 6, 2021
This document is intended for institutional investors and is not subject to all of the independence and disclosure standards applicable to debt research reports prepared for retail investors.
Fannie Mae and Freddie Mac MBS prepayment speeds fell roughly 10% in July, at the slow end of Street expectations and another sign of burnout in MBS. Lagged mortgage rates held steady near 3%, which should have kept refinance volume steady. But speeds fell by more than the 5% implied by one fewer business day. The biggest slowdowns came in 30-year 3.5%s through 4.5%s, including seasoned vintages, another sign that fewer borrowers in those cohorts are willing to refinance at current mortgage rates. And the GSEs’ new refinance programs for low-income borrowers continue to see little uptake, a sign those programs will not broadly raise prepayment speeds.
The refi index continues to indicate burnout
Mortgage rates fell throughout July, and the MBA Refinancing Index moved higher. Recent mortgage rate surveys from Freddie Mac show a mortgage rate near 2.75%, and the refi index has bounced to slightly more than 3,600 (Exhibit 1). However, the refi index was consistently near 4,000 when rates reached these levels last year and reached as high as 4,700 in January and February. This suggests originators are struggling to generate refinance business at these mortgage rates. Many borrowers refinanced at these rates last year, and the ones that did not refinance are proving less willing to do so now. This is a good sign for investors holding very high coupon pools that had remained stubbornly fast.
Exhibit 1: The MBA refi index is still low for the level of mortgage rates
Home purchase activity slowed further in July
The housing market has been on fire for most of the pandemic. Prices have surged higher, and homes have been selling at a rapid pace. But this has caused the for-sale inventory to fall to record low levels. As a result, purchase activity has fallen over the last few months and continued downward in July (Exhibit 2). Recent purchase activity is consistent with activity in 2019. This should contribute to slower prepayment speeds across the coupon stack, boosting extension risk in MBS.
Exhibit 2: The MBA purchase index fell in July
MBS prepayment speeds should increase roughly 15% in August due to lower lagged mortgage rates, the Federal Housing Finance Agency’s recent decision to remove the 50 bp adverse market refinance fee and one additional business day. Lagged mortgage rates fall 13 bp to roughly 2.8%, which should increase refinancing activity. And removing the refinance fee is equivalent to lowering mortgage rates by roughly 12.5 bp for many borrowers. However, borrowers have had the opportunity to refinance at these mortgage rates before, which will limit the refinance response and is evidenced in the MBA refi index. Speeds should be unchanged in September, assuming mortgage rates stay near 2.75%, before slowing due to seasonally lower housing turnover in the fall.
The RefiNow program continues to get little use
Very few loans were originated during the first two months of Fannie Mae’s RefiNow program (Exhibit 3). Only 0.27% of all rate or term refinances pooled from June 4 through August 5 used the program. This program, and Freddie Mac’s Refi Possible program, are geared towards borrowers that lost income during the pandemic and no longer qualify for a traditional refinance. Fannie Mae started identifying loans that come through this program in June, while Freddie Mac plans to do so in September
Investors have been concerned that a new refinance program could significantly boost prepayment speeds, and a second month of low issuance should help calm those fears. Borrowers that used forbearance during the pandemic are the most likely to need these programs to refinance. But the programs do not appear to have much appeal to borrowers that could already refinance using existing offerings.
Exhibit 3: Very few loans were originated using RefiNow in July
The top portion of the exhibit shows purchase and refinance volume through each of the three programs as a percent of total production. The bottom half of the exhibit shows the percent of each loan purpose that comes from each program. The RefiNow program accounted for only 0.10% of total issuance, and 0.27% of total rate and term refinance issuance, from June 4 through August 5.
Ginnie Mae prepayment and buyouts slowed in July
Ginnie Mae II speeds slowed 7.3% in July, due to a combination of slower voluntary prepayments and fewer buyouts. Voluntary prepayment slowed the most in 4% and 4.5% coupons. Like conventional speeds, many seasoned cohorts slowed more than the 5% implied by fewer business days. Buyout rates dropped 22%, primarily due to slowdowns at PennyMac and Caliber (Exhibit 4).
Exhibit 4: Ginnie Mae servicers with the largest delinquent pipelines
The Fannie and Freddie numbers
Fannie Mae and Freddie Mac prepayment speeds each slowed roughly 10% in June, at the low end of street expectations (5% to 10% slower) and at the high end of the Amherst Pierpont forecast of a 10% to 15% slowdown (Exhibit 5). Lagged mortgage rates held steady just below 3% but the MBA refi index had been falling, pointing to slower speeds. The MBA purchase index also pointed to slower housing turnover. And there was one fewer business day.
Exhibit 5: MBS prepayment speeds slowed in July
Exhibit 6: Prepayment Summary
Our short-term forecast is shown in Exhibit 9 (Fannie Mae) and Exhibit 10 (Freddie Mac). Exhibit 8 shows the static rates used in the prepayment forecast.