By the Numbers

A private-label MBS buyer’s guide for 2025

Chris Helwig | December 13, 2024

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. This material does not constitute research.

Supply of private-label RMBS jumped dramatically this year and appears poised to take another pronounced jump higher in 2025. Growing supply appears poised to meet with strong demand, likely signaling tighter spreads ahead, particularly for shorter duration exposures that serve as out-of-index surrogates for short-dated corporates.

With roughly $135 billion in year-to-date issuance, supply of non-agency RMBS should roughly double last year’s volumes. Next year may be setting up to compete with the recent high-water mark of 2021, which saw upwards of $200 billion in gross issuance. Next year may draw a couple of key comparisons to 2021, namely the prospects for a smaller GSE footprint and steepening of the yield curve, both of which should be strong tailwinds for supply of private-label RMBS. In addition to policy and the curve, equity extraction will likely be a key driver of private-label supply into next year.

A look at sources of supply

A smaller GSE footprint likely pushes more non-owner-occupied and jumbo conforming loans to private-label channels as evidenced in 2021 when FHFA was stewarded by Trump appointment Mark Calabria. In 2021, agency eligible investor loans accounted for over $25 billion in PLS supply versus just $4 billion this year. Any targeted action by a new FHFA director to limit purchases of non-owner-occupied loans would likely translates to tens of billions in non-agency supply next year.

With our colleague Stephen Stanley calling for a total of five cuts over the remainder of this year and next, lower front end benchmark rates, if realized, should skew a growing amount of non-QM production towards securitization and away from insurance capital given the substantial reduction in cost-of-funds for sponsors as benchmark rates fall. A flat and often inverted yield curve over the past two years has created stiff competition from insurance capital for non-QM loans as evidenced in the material drawdown in securitization rates of these loans over the same horizon. According to Inside Mortgage Finance, securitization rates of non-QM whole loans have hovered around 50% most quarters in recent years, resulting in roughly $35 billion in issuance this year. Assuming roughly $100 billion in gross originations next year and roughly a two thirds securitization share could see non-QM issuance roughly double next year to upwards of $65 billion.

Short duration corporate surrogates appear poised to outperform

With most sectors of the investment grade market trading at 5-year tights, short duration structured products currently offer attractive out-of-index exposure for managers looking to add alpha and outperform corporate benchmarks. ABS looks likely to be the clear beneficiary of out-of-index flows given the soft bulleted nature of most ABS cash flows and little to no required analysis of embedded option cost, making the relative value framework versus short corporates fairly straight forward. Conversely, any analysis of private-label MBS exposures versus corporates will involve valuation of the convexity of the exposure both in the form of prepayment risk and call risk.

Looking at current non-QM ‘AAA’ pricing suggests that investors may already be viewing the asset class more so as a surrogate for corporates than MBS. ‘AAA’ spreads for top tier issuers currently sit at 115 bp, well inside nominal spreads on current coupon 30-year MBS which are just outside of 130 bp versus a duration neutral blend of 5- and 10-year Treasuries (Exhibit 1). Given substantially superior liquidity and arguably convexity in current coupon agency MBS, other factors are likely at play in driving ‘AAA’ non-QM spreads inside those of current coupon MBS.

Exhibit 1: NQM ‘AAA’ spreads inside of current coupon MBS

Source: Santander US Capital Markets, Bloomberg LP

Differences in duration between the two instruments can certainly factor into the decision as the effective duration of non-QM ‘AAA’s is roughly half of that of current coupon MBS. However, embedded in that duration forecast for non-QM ‘AAA’s is an assumption of if or when the sponsor will call the transaction. Shorter duration ‘AAA’s are more likely to be viewed as surrogates for short corporates while longer duration, less callable non-QM seniors are more likely to be benchmarked against MBS and require more nominal spread compensation given the benchmark. This is evident when mapping the duration of non-QM ‘AAA’s against the basis between their spreads and current coupon MBS, where, as the duration of non-QM ‘AAA’s extended into the backup in rates, investors commanded a greater premium over the MBS benchmark (Exhibit 2).

Exhibit 2: Non-QM spreads tighten as duration shortens

Source: Santander US Capital Markets, Bloomberg LP

While an upward sloping forward curve may suggest lower future collateral prices and diminished callability, this appears to be largely offset by projections of future front-end benchmark rates which are substantially lower than spots and likely create significant incentive for sponsors to call and re-lever these structures when they become callable. With the overwhelming majority of non-QM liabilities struck off the 2-year spot on the curve, the 3-year forward 2-year rate, at which point a new issue deal would be callable, provides valuable insight as to whether a deal may be called in the future. That rate currently sits at 3.71% roughly 50 bp below spot rates and potentially creating substantial incentive for non-QM sponsors to call newly minted transactions in the future.

Asset managers may view closed-end second lien, re-performing and residential transition loan transactions in the same vein based on callability, structure, collateral or some combination thereof. Investors weighing call probability should gravitate towards deals backed by closed-end second (CES) liens given the greater probability of calls being exercised in those transactions relative to non-QM deals. Increased likelihood of CES transactions being called is driven by the sizable differences in the price of loans backing CES deals versus those backing NQM trusts. The average price of collateral being contributed to non-QM trusts is roughly $102 to $103, meaning absent a sponsor hedging the call, collateral valuations can dip below the par call strike even without a major move upward in rates. By comparison, collateral backing CES deals generally ranges between $106 and $107, with the same par strike as NQM trusts. Given this, investors looking for short, soft bullet-like corporate surrogates may favor CES ‘AAA’ even over those of NQM exposures as they currently offer an additional 20 to 25 bp in nominal spread and substantially better prospects of being called.

Supply may weigh on prime spreads, investor collateral continues to offer better relative value

Investors looking for out-of-index exposure to an MBS benchmark may be subject to some near-term widening in prime private-label exposures, particularly if supply surprises to the upside as more loans that were previously delivered to the enterprises find their way to private-label securitization conduits. Based on current spread and subordination levels, the private-label market appears well positioned to absorb additional supply of agency eligible non-owner-occupied loans and that advantage will only become more pronounced if a new director of FHFA further increases LLPAs on these loans (Exhibit 3).

Exhibit 3: Breaking down agency and non-agency execution for investor loans

Source: Santander US Capital Markets
Note: Analysis is gross of fixed private-label securitization expenses

Out-of-index investors should skew allocations towards GSE-eligible loans as they may more closely track potential MBS tightening next year and, in the case of investor loans, may offer better convexity than other private-label exposures. Tracking performance of investor loans securitized in prime trusts shows marginal convexity differences between investor loans that are pooled versus those in private-label trusts and investors are substantially compensated for selling the relative liquidity associated with specified pools in most normalized credit and liquidity scenarios.

Chris Helwig
christopher.helwig@santander.us
1 (646) 776-7872

This material is intended only for institutional investors and does not carry all of the independence and disclosure standards of retail debt research reports. In the preparation of this material, the author may have consulted or otherwise discussed the matters referenced herein with one or more of SCM’s trading desks, any of which may have accumulated or otherwise taken a position, long or short, in any of the financial instruments discussed in or related to this material. Further, SCM may act as a market maker or principal dealer and may have proprietary interests that differ or conflict with the recipient hereof, in connection with any financial instrument discussed in or related to this material.

This message, including any attachments or links contained herein, is subject to important disclaimers, conditions, and disclosures regarding Electronic Communications, which you can find at https://portfolio-strategy.apsec.com/sancap-disclaimers-and-disclosures.

Important Disclaimers

Copyright © 2025 Santander US Capital Markets LLC and its affiliates (“SCM”). All rights reserved. SCM is a member of FINRA and SIPC. This material is intended for limited distribution to institutions only and is not publicly available. Any unauthorized use or disclosure is prohibited.

In making this material available, SCM (i) is not providing any advice to the recipient, including, without limitation, any advice as to investment, legal, accounting, tax and financial matters, (ii) is not acting as an advisor or fiduciary in respect of the recipient, (iii) is not making any predictions or projections and (iv) intends that any recipient to which SCM has provided this material is an “institutional investor” (as defined under applicable law and regulation, including FINRA Rule 4512 and that this material will not be disseminated, in whole or part, to any third party by the recipient.

The author of this material is an economist, desk strategist or trader. In the preparation of this material, the author may have consulted or otherwise discussed the matters referenced herein with one or more of SCM’s trading desks, any of which may have accumulated or otherwise taken a position, long or short, in any of the financial instruments discussed in or related to this material. Further, SCM or any of its affiliates may act as a market maker or principal dealer and may have proprietary interests that differ or conflict with the recipient hereof, in connection with any financial instrument discussed in or related to this material.

This material (i) has been prepared for information purposes only and does not constitute a solicitation or an offer to buy or sell any securities, related investments or other financial instruments, (ii) is neither research, a “research report” as commonly understood under the securities laws and regulations promulgated thereunder nor the product of a research department, (iii) or parts thereof may have been obtained from various sources, the reliability of which has not been verified and cannot be guaranteed by SCM, (iv) should not be reproduced or disclosed to any other person, without SCM’s prior consent and (v) is not intended for distribution in any jurisdiction in which its distribution would be prohibited.

In connection with this material, SCM (i) makes no representation or warranties as to the appropriateness or reliance for use in any transaction or as to the permissibility or legality of any financial instrument in any jurisdiction, (ii) believes the information in this material to be reliable, has not independently verified such information and makes no representation, express or implied, with regard to the accuracy or completeness of such information, (iii) accepts no responsibility or liability as to any reliance placed, or investment decision made, on the basis of such information by the recipient and (iv) does not undertake, and disclaims any duty to undertake, to update or to revise the information contained in this material.

Unless otherwise stated, the views, opinions, forecasts, valuations, or estimates contained in this material are those solely of the author, as of the date of publication of this material, and are subject to change without notice. The recipient of this material should make an independent evaluation of this information and make such other investigations as the recipient considers necessary (including obtaining independent financial advice), before transacting in any financial market or instrument discussed in or related to this material.

Important disclaimers for clients in the EU and UK

This publication has been prepared by Trading Desk Strategists within the Sales and Trading functions of Santander US Capital Markets LLC (“SanCap”), the US registered broker-dealer of Santander Corporate & Investment Banking. This communication is distributed in the EEA by Banco Santander S.A., a credit institution registered in Spain and authorised and regulated by the Bank of Spain and the CNMV. Any EEA recipient of this communication that would like to affect any transaction in any security or issuer discussed herein should do so with Banco Santander S.A. or any of its affiliates (together “Santander”). This communication has been distributed in the UK by Banco Santander, S.A.’s London branch, authorised by the Bank of Spain and subject to regulatory oversight on certain matters by the Financial Conduct Authority (FCA) and the Prudential Regulation Authority (PRA).

The publication is intended for exclusive use for Professional Clients and Eligible Counterparties as defined by MiFID II and is not intended for use by retail customers or for any persons or entities in any jurisdictions or country where such distribution or use would be contrary to local law or regulation.

This material is not a product of Santander´s Research Team and does not constitute independent investment research. This is a marketing communication and may contain ¨investment recommendations¨ as defined by the Market Abuse Regulation 596/2014 ("MAR"). This publication has not been prepared in accordance with legal requirements designed to promote the independence of research and is not subject to any prohibition on dealing ahead of the dissemination of investment research. The author, date and time of the production of this publication are as indicated herein.

This publication does not constitute investment advice and may not be relied upon to form an investment decision, nor should it be construed as any offer to sell or issue or invitation to purchase, acquire or subscribe for any instruments referred herein. The publication has been prepared in good faith and based on information Santander considers reliable as of the date of publication, but Santander does not guarantee or represent, express or implied, that such information is accurate or complete. All estimates, forecasts and opinions are current as at the date of this publication and are subject to change without notice. Unless otherwise indicated, Santander does not intend to update this publication. The views and commentary in this publication may not be objective or independent of the interests of the Trading and Sales functions of Santander, who may be active participants in the markets, investments or strategies referred to herein and/or may receive compensation from investment banking and non-investment banking services from entities mentioned herein. Santander may trade as principal, make a market or hold positions in instruments (or related derivatives) and/or hold financial interest in entities discussed herein. Santander may provide market commentary or trading strategies to other clients or engage in transactions which may differ from views expressed herein. Santander may have acted upon the contents of this publication prior to you having received it.

This publication is intended for the exclusive use of the recipient and must not be reproduced, redistributed or transmitted, in whole or in part, without Santander’s consent. The recipient agrees to keep confidential at all times information contained herein.