Falling interest rates have healed the ailing mortgage origination market almost overnight by setting off a refinance boom that has many lenders scrambling to respond to applicants.
But refinancing levels have sped up prepayments on mortgage bonds, and that has the mortgage-backed securities market in a slide that some analysts expect to last through the year. Last week Fannie Mae and Ginnie Mae took the mortgage bond world aback when they announced that prepayment speeds on their mortgage bonds surged in January as much as 219% on one coupon.
January prepayment increases produced eye-popping numbers, said Arthur Q. Frank, head of mortgage research at Nomura Securities. We had a pretty big surprise in terms of how fast recently produced, newer-premium pools prepaid in January, he said.
The impact on the residential mortgage-backed securities market could be substantial.
If speeds continue to stay high and analysts expect they will 2001 could top 1998 levels of refinancing and prepayment speeds. As a result, these analysts say, investors may move out of residential mortgage bonds and into other types of securities, such as Fannie Mae or Freddie Mac debt bonds or commercial mortgage-backed bonds.
Once mortgage rates fall below 7%, roughly $1 trillion of mortgage-backed securities, or two-thirds of the bonds currently on the market, become refinanceable, said Michael D. Youngblood, an analyst with Banc of America Securities in Charlotte, N.C.
Freddie Macs interest rate survey found that the 30-year fixed mortgage rates slipped below 7%, to 6.98%, last week, and the 15-year fixed rate fell to 6.60%.
A prepayment is the unscheduled payment of all or part of the outstanding principal of a mortgage loan. Prepayment speed is the calculation of the rate at which mortgagors pay off their loans ahead of schedule.
This years prepayment numbers may top 1998s, Mr. Youngblood said, because borrowers have more incentive to refinance than simply garnering a lower interest rate on their mortgage loan. Scorching home-price appreciation over the last two years will also drive borrowers to refinance, because they can borrow additional equity to buy a new car or even pay off credit card debt, he said.
For example, a borrower who took a $200,000 loan to buy a home in 1999 could now refinance into a $220,000 loan, taking into account the appreciation of his home price. With the extra $20,000, which would be borrowed at a 7% interest rate, the borrower could pay off his credit card bills, which may be around 12% rate. Further, mortgage payments are tax-deductible, adding to the advantage of refinancing into a bigger loan.
Whats more, Mr. Frank said, mortgage brokers have been encouraging borrowers who took out mortgages as recently as last year to get through the refinance process quickly, in a matter of weeks, which is much faster than three years ago. He said technology such as e-mail has helped quicken the process.
This is evident at Countrywide Credit Industries Inc. of Calabasas, Calif., which reported last week that its business has reached levels not seen since mid-1999. Refinance applications surged 61% from December, representing 46% of total fundings, while daily applications reached $610 million, the second-highest level in the companys history.
Prepayment speeds of Fannie Mae 30-year, 7.5% coupon mortgage bonds issued in 2000 rose 219% between December and January, to a 21.3% constant prepayment rate, and 30-year, 8% coupon speeds rose 122%, to a 33.2% CPR.
What makes the January speed increases all the more impressive, Mr. Youngblood said, is that January and February are typically the weakest months for housing changes, because families are less apt to move in the middle of the school year.