Class C allocations portends UMBS pooling conversion risk

So, the FHFA wants to homogenize the TBA deliverable going forward so as to make the market more “fungible?” Be careful about what you wish for Dr. Calabria. https://www.fhfa.gov/Media/PublicAffairs/PublicAffairsDocuments/Pooling_RFI-ext.pdf

GNMA had also “wished” for fungibility, as they compartmentalize custom pools while making almost everything else a multi issuer pool. When things are printing sublimely, this works out. On lesser occasions, the entire complex is held hostage to some stinky prepay prints where dollar rolls get poisoned first; with cash and forward month contract markets right behind.

Case in point; yesterday's Class C 48 hour allocations day for 30yr GNMAs. The odorous scent emanating from the complex was centered around GNMA II 3.5%s and 4% coupons as market participants priced in 9 and 10 WALA (weighted average life) MA pools that had recent speeds of upwards of 75 CPR! That left the roll market trading to a -4/32nds bid, with break-even drop (carry) roughly double that. That’s no way to promote both liquidity and fungibility in any market.

How did GNMA get there and what does FNMA/FHLMC/UMBS learn from this exercise? GNMA has had a limited specified pool market for some time. In fact, as the GNMA II program started to dominate via multi pool issuance, GNMA I was relegated to NOT good delivery status with specified pool stories (mainly state specific, housing authority ones at that).

The maturation of the GNMA market was one of catering to smaller issuers delivering into a smaller pool size than GNMA I ($250, 000 vs $1,000,000 minimum pool size). The mortgage market itself is one dominated by non-bank issuers in the wake of the 2008-09 credit crisis, ensuing over-regulation of lending, with many larger banks exiting the market as everything from Dodd/Frank to Basel I, II, and III dissuading positioning of any sort.

Along comes UMBS, primarily to reengage FHLMC into the GSE market and put it on a par to FNMA. The prepay numbers have meted out however old habits are hard to break, and FNMA still holds a secret place in most market players hearts and minds. To further homogenize the landscape, the overlord, FHFA, wants to basically co-mingle all worthy bonds and have them funneled into TBA for the good of the market (both size and liquidity).

Noble undertaking however, they also want to strip the specified pool stories from flow, with those relegated to basically the UMBS version of a GNMA Custom pool (which trades back from TBA, btw). Specified pools are one of the last true ways to target a borrower cohort and state an opinion on Agency MBS itself without feeling your dollars are being herded in with the general population.

Again, the undertaking is noble and geared toward warding off sparsity of flow in dire times such as those endured 11 and 12 years ago.

Back to Class C 48hr day; MA pool 5817 comes to mind as bench mark indicator pool from which the entire GNMA II complex took its lead into allocations and settlement of December TBA. This pool is $9.8 billion Original Face (O/F), $7.78 billion C/F, with 39,779 loans at issuance 10 months ago (10 WALA). One month or most recent speed was 77.536 CPR, 55.181 3mos CPR and 35.144 6 mos CPR.

This pool has 201 Current Servicers and 39,782 loans; certainly a hodge-podge of a pool and a nice facility to serve the under served and smaller seller/servicers. However, as always in a “all you can eat” buffet, not all the output is digestible. For every 27CPR print, there are some upper 80/low 90s one-month CPRs. That’s the obvious danger of fungibility (see Refintiv's Advanced Mortgage Analytics breakdown below).

All this inclusionary talk is somewhat counter productive to the analytical nature of the market. Of course, we want to serve large central banks who rarely care to undertake due diligence exercises for specific pools. However, the bulk of non-bulk investors (buy siders, hedge funds and other end buyers) will put in the effort on spec pools rather than be held hostage to the whims of TBA deliverables.

Wasn't the lack of due diligence at the center of some of the evils from the credit crisis, where ratings agencies were blindly followed at times? How bland do they think they can make a rather intelligent market anyway? TBA is a calculated crap shoot for rolling forward positions, not logistically used to take delivery. The more items you dump in there, the worse the profile has the potential to become. So do us a favor FHFA, leave well enough alone. It’s not called “cheapest or worst to deliver” for nothing.