Two measures of loan age introduced by the Federal National Mortgage Association and the Federal Home Loan Mortgage Corporation have become embedded in market analysis and may reduce investor challenges to brokers' judgments.
"In the past, I remember instances when customers questioned traders' judgments about the age of loan portfolios," said Andrew S. Carron, director of fixed-income research at First Boston Corp., New York. "Those challenges have stopped. Whether it's because the new age measures are now part of the analysis or whether investors have just become better educated, I don't know."
The age of mortgages is important because prepayment rates are typically lower for younger mortgages. Higher-than-expected prepayment rates can slash the value of many mortgage-backed derivatives, including interest-only strips.
Freddie Mac's weighted average loan age WAIN is more precise than Fannie Mae's calculated age (CAGE), but both are improvements over past measuring tools.
The WALA reflects the weighted average of the number of months since the date of note origination for all of the mortgages in a mortgage pool. CAGE is arrived at by subtracting the weighted average remaining term to maturity (WAM or WARM) from the original term and adding back the number of months since the pool was issued.
Rob Fry, Fannie Mae director of real estate mortgage investment conduit information, said his company is considering developing a WALA but said there has been no investor demand for it.
"We've had very positive feedback on WALA," said Joel Katz, manager of research and development in structured finance for Freddie Mac. Katz, who developed WALA said it has proven essential for research reports that use an age variable.
The principal reason for the inaccuracy of the WARM is the effect of partial prepayments, often called curtailments. Since the mortgage balance is reduced, if the mortgagor merely continued his or her contractual payment schedule, it would reduce or curtail the maturity of the loan. The WARM would not pick this up.
The use of WALA data has found that mortgages behind Freddie Mac pools are younger than previous. calculated under the WARM.