The expected rise in applications to refinance existing mortgages finally began during the past week, pushing down prices on mortgage bonds, particularly those backed by higher-cost mortgages.

The Mortgage Bankers Association said Wednesday that its refinancing index rose 17% in the latest week, bringing the four-week average increase to 3.2%. At 4,676.70, the index is at its highest since May 2009. Mortgage rates have fallen to another record low as the benchmark 10-year Treasury yield has tumbled. The average rate for a 30-year home loan dropped to 4.44% last week, according to the latest Freddie Mac survey — the lowest ever.

Mortgage bondholders dread refinancing waves because these lead to early repayment of the bonds. Investors must reinvest their funds, but with interest rates falling, as they are now, the new investments will yield less.

Many fear this week's pickup in refinancing could become pivotal for the mortgage-backed securities market. After several months of gains, as investors looked for assets that offered decent yields, recent weeks have seen the selling of mortgage securities pick up. This selling could gather pace if refinancings continue to rise. And it would come just as supply picks up when the refinanced mortgages are packaged into new securities and sold back into the market.

"What we are seeing now is a combination of more production and people de-risking," said David Cannon, a global co-head of mortgage-backed securities and asset-backed securities trading at Royal Bank of Scotland in Stamford, Conn. "Investors want to take their chips off the table, just as we are seeing more origination of new bonds."

Mortgage securities started to feel the heat when mortgage rates began falling toward 4.5%. Analysts had expected more homeowners to refinance and for loans to be prepaid even earlier than this, but the wave failed to materialize as new homeowners, who form a sizable share of those who would be eligible and interested to refinance at these low rates, were put off by high loan closing costs.

However, as rates kept plunging, the numbers have begun to work in favor of those who borrowed at 5% or more in the past couple of years. Many of these are eligible to refinance; in recent years, banks have been demanding 20% down payments for new-home purchases and have only lent to borrowers with good credit histories.

Many holders of these bonds have turned sellers, hoping to cash in on the current premium prices.

On Wednesday, prices on the Fannie Mae 30-year bond with a 4.5% coupon, one of those most affected by refinancing activity, dropped to 104 and 2/32, from 104 and 10/32 in the morning. Risk premiums on agency mortgage bonds are at 145 basis points over comparable Treasuries.

Supply worries almost certainly guarantee that the selling will continue into September, when most of the refinanced mortgages are expected to come back into the market. On Wednesday, nearly $2.5 billion of new mortgage securities had hit the market by midday.

Even the Federal Reserve is struggling with the pickup in early prepayments, which caused its balance sheet to contract more quickly than expected, according to Narayana Kocherlakota, the president of the Federal Reserve Bank of Minneapolis. He said in a speech Tuesday that this was the main reason the Fed decided to restart its Treasury purchase program. The Fed had bought $1.25 trillion in mortgages as part of its economic stimulus effort. This program ended in March.

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