By the Numbers
Fannie Mae cash window auction skews value up-in-coupon
This material is a Marketing Communication and does not constitute Independent Investment Research.
Fannie Mae’s latest cash window auction suggests there is substantially better value in premium specified pools than those closer to par. Premium specified pools show not only wider OAS to their underlying TBA contracts but also much more spread to TBA than in par-priced specified pools. The 6.5% coupon saw the most month-over-month widening as the coupon underperformed the rest of the stack and the dollar roll weakened. And while 6.5%s look attractive broadly across specified stories, 100% Texas and non-owner-occupied pools look attractive in both the 5.5% and 6.0% coupons.
Par-priced and premium TBA contracts hit full year tights in the middle of September but have widened since. The 5.0% cohort has seen the least retracement, leaving it the richest part of the coupon stack. Treasury OAS on FNCL 5.0%s tightened to 20 bp on September 15 and have widened by just 5 bp to their current reading. Treasury OAS on the 6.5% cohort, however, also touched 20 bp on September 15 but have nearly doubled since, currently sitting at 39 bp (Exhibit 1). Underperformance in 6.5% was not localized to just spread as the dollar roll went negative and currently sits at -2.25/32s. The weakening in the 6.5% dollar roll has improved the month carry advantage in specified pools by roughly 2/32s.
Exhibit 1: FNCL 6.5% have underperformed off the recent tights
Source: Santander US Capital Markets, Bloomberg LP
Sizing up performance in loan balance specified pools
Looking at the results of October’s cash window auction against September’s helps illustrate the cheapening in the 6.5% cohort. Looking first at traditional loan balance stories, despite the relative outperformance of the coupon, loan balance 5.0% pools generated an even smaller OAS advantage versus TBA in October than the previous month. OAS on loan balance 5.0%s tightened by anywhere from 6 bp to 8 bp this month, generally picking up just 25 bp versus TBA across loan balance cuts. Conversely, despite a roughly 20 bp widening in the underlying benchmark TBA, higher loan balance cuts in the 6.5% cohort offered a substantially greater OAS advantage over that TBA in October versus the previous month. For example, $175k max 6.5% offer a 55 bp OAS advantage versus TBA assuming this month’s cash window pay-up of $2-04 5/8. That advantage was just 45 bp last month (Exhibit 2).
Exhibit 2: FNCL 6.5% loan balance cuts offer an even greater OAS advantage over TBA than last month
Source: Santander US Capital Markets
While lower loan balance cuts saw the most pronounced increased in OAS advantage in the 6.5% coupon, certain other specified stories in the cohort saw meaningful widening as well. Florida 6.5%s saw the OAS advantage versus TBA increase by 7 bp over the September print while 100% New York 6.5%s added an additional 6 bp of OAS. 6.5% pools backed by sub-700 FICO borrowers widened it’s OAS pick up by 10 bp. With that said, I remain cautious on credit stories such as high LTV and low FICO pools, particularly up in coupon, against the backdrop of potentially increasing unemployment rates as these loans may be more acutely prone to higher delinquencies that could trigger modifications and buyouts.
Texas and non-owner-occupied pools continue to deliver attractive relative value
While the 5.0% coupon looks like the richest part of the stack, there do appear to be pockets of relative value in 5.5% and 6.0% pools. The best of the higher coupons look like those backed by 100% Texas and non-owner-occupied loans, with a bias towards 6.0% pools where the OAS advantage versus TBA has widened in the past month versus 5.5%, which have seen the OAS advantage either unchanged or tighter month-over-month. The 6.0% second home pool traded at a pay up of just over 18/32s this month, translating to a 55 bp advantage over TBA, 5 bps more than the September auction level. The 100% Texas pool traded at slightly more than an 8/32 pay up, which equated to a 48 bp advantage, and looks to offer the biggest OAS advantage per tick of pay-up of all specified stories within the coupon.
Some of the relative cheapness in 5.5% pools backed by second homes has disappeared over the past month as a growing number of investors have begun to focus on the story. The pay-up appreciated by 3/32s month-over-month from 8.75/32s to 11.75/32s, translating to a 4 bp decrease in the advantage over TBA from 46 bp to 42 bp. With that said, second home 5.5%s still offer attractive relative value and may continue to tighten further.
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