PrefBlog

The repo market for mortgage-backed securities is looking a lot healthier:

Wall Street firms are loosening the terms of their lending to mortgage-bond investors as markets heal, an RBS Securities Inc. executive said.

Repurchase agreement, or repo, lending against the debt has expanded so much since freezing in late 2008 that some banks now offer as much as 10-to-1 leverage and terms as long as one year on certain securities backed by prime-jumbo home loans, said Scott Eichel, the Royal Bank of Scotland unit’s global co-head of asset- and mortgage-backed securities.
…
As asset values dropped during 2007 and 2008, leverage boosted losses, wiping out hedge funds run by London-based Peloton Partners LLP and New York-based Bears Stearns Cos., and damaged markets by leading to forced sales by firms including Santa Fe, New Mexico-based Thornburg Mortgage Inc., which filed for bankruptcy.

This is of particular interest because MBS have embedded put options reflecting the homeowner’s ability to refinance. This means that when yields on MBS – best reflected by the 10-year treasury – increase, the calculated average term of the mortgage increases, since nobody’s going to refinance a loan with a below-market coupon. To offset this, holders of MBS will short 10-year Treasuries … and the more prices go down, the more they have to short. During the bond market crash of 1994, 10-years behaved an awful lot more like long-term bonds than medium term!

The SEC has found something that is not regulated and is proposing forceful action to address the issue:

The requirement that a brokerdealer’s financial and regulatory risk management controls and procedures be reasonably designed to prevent the entry of orders that fail to comply with the specified conditions would necessarily require the controls be applied on an automated, pre-trade basis before orders route to an exchange or ATS, thereby effectively prohibiting the practice of “unfiltered” or “naked” access to an exchange or ATS.

Volume was heavy today and FixedResets recorded another shut-out on the volume tables, probably related to tomorrow’s closing of the AER 6.50%+375 and BPO 6.15%+307 FixedReset issues. Price action was muted, with PerpetualDiscounts up 2bp and FixedResets down 2bp.

This entry was posted on Tuesday, January 19th, 2010 at 8:16 pm and is filed under Market Action. You can follow any responses to this entry through the RSS 2.0 feed. You can leave a response, or trackback from your own site.