By the Numbers
Lower HPA lifts the value of specified pools
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Mortgage rates fell in August and the Fed is likely to start cutting soon, so mortgage investors are concerned about prepayment speeds of loans originated over the last couple of years. Slower home price appreciation should slow refinancing speeds of these loans relative to the pandemic experience, and specified pools stand to benefit. Speeds on low loan balance and FHA pools historically have been more sensitive to HPA than higher-balance, generic pools. That should boost performance of those pools as rates drop, increasing pay-ups.
The effect on pay-ups from lower home equity can be large (Exhibit 1). This table uses Yield Book to price two 6.5% 2024 cohorts—one cohort represents generic loans that do not match specified pooling parameters, and the other represents loans that have original loan sizes between $175,000 and $200,000. The model is then dialed for both cohorts to account for the difference in empirical S-curves between the pandemic environment and the pre-pandemic environment, which is like today’s. Holding OAS constant implies the pay-up could increase from the current mark of more than 44/32s to nearly 66/32s—an increase of around 21/32s—as the impact of slower HPA gets realized.
Exhibit 1. Lower HPA could lift pay-ups for Max $200K collateral by 22/32s

Pay-up from Bloomberg BVAL.
Source: Bloomberg, Yield Book, Santander US Capital Markets.
This pay-up is an upper-bound, since the dials assume the S-curve difference persists over entire cash flow. Another consideration is that Yield Book may have some of this effect built in. However, it runs the low loan balance cohort to a tighter OAS than the generic cohort at the market pay-up, which suggests that Yield Book’s cumulative HPA effect is not as strong as the empirical S-curves suggest.
Loans originated during 2020 and 2021 accumulated equity at an historically rapid pace (Exhibit 2). The line shows the average amount of equity gain from home price appreciation for loans between 6 and 24 months of seasoning. Prior to the pandemic the typical loan in this WALA range had added 5% to 10% after origination. But during the pandemic, record home price appreciation pushed this number over 20%, and even over 25% for a few months. This seasoning range was chosen since those loans tend to be very refinanceable. Then, in 2022, the housing market slowed as interest rates increased. Home price appreciation normalized to pre-pandemic levels, and the cumulative HPA in new loans has returned to pre-pandemic levels.
Exhibit 2. Cumulative HPA in recently originated loans is at pre-pandemic levels.

Fixed-rate 30-year loans, owner-occupied, 6 to 24 months seasoned.
Source: Fannie Mae, Freddie Mac, Ginnie Mae, Case-Schiller, Santander US Capital Markets.
Changes in home price appreciation have a larger effect on smaller loans (Exhibit 3). The left-side shows S-curves for loans between $175,000 and $200,000 original balance stratified by cumulative HPA. The right-side shows this for loans over $300,000 original balance, that are typically placed in generic pools that investors are willing to deliver into TBA contracts. Home price appreciation has a large effect on discount prepayment speeds in both charts. But for refinancing, cumulative HPA appears to have a larger effect on the prepayment speeds of smaller loans. Newer production (2022 and newer vintage) low-loan balance pools should be able to command higher pay-ups than during the pandemic.
Exhibit 3. Home price appreciation has a larger effect on refinancing in smaller balance pools.

Fixed-rate 30-year loans, owner-occupied, 6 to 24 months seasoned.
Source: Fannie Mae, Freddie Mac, Santander US Capital Markets.
A similar picture appears in Ginnie Mae pools with FHA and VA loans (Exhibit 4). FHA loans offer prepayment protection relative to VA loans, even at loan sizes that are too large for typical low loan balance specified pools. The S-curves for FHA loans with less cumulative HPA are slower when in-the-money, while the VA S-curves don’t show this behavior. In fact, the VA S-curves for loans with >20% HPA are slower deep in-the-money, which is unusual. The explanation is likely burnout—even at 20% HPA it would take over a year to reach 25% cumulative HPA (the mid-point of the 20% to 30% band). VA loans prepay so quickly that many of the fastest loans would have prepaid by then, leaving behind a slower cohort. The buckets with less accumulated equity are somewhat less seasoned, so there is less burnout.
Exhibit 4. Home price appreciation has a larger effect FHA refinancing than on VA.

Fixed-rate 30-year loans, 6 to 24 months seasoned, original loan size >$300,000.
Source: Ginnie Mae, Santander US Capital Markets.
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