Bloomberg: Mortgage-Bond Slump in U.S. Deepening as Jumbo, Alt-A Debt Extend Losses

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Bloomberg: Mortgage-Bond Slump in U.S. Deepening as Jumbo, Alt-A Debt Extend Losses
By Jody Shenn - Jun 28, 2011 1:30 AM GMT+0900

U.S. mortgage bonds without government backing are extending losses as signs of a weakening U.S. economy and concern that Greece may default on its debt curb risk-taking.

Typical prices for the senior-most securities backed by prime-jumbo mortgages that started with a few years of fixed rates fell 1.5 cents on the dollar to 79 cents last week, bringing losses over the past three months to 6 cents, Barclays Capital data show. Similar bonds linked to Alt-A adjustable-rate mortgages dropped 1 cent to 60 cents, bringing their three-month slump to 7 cents, the data show.

A rout in the $1.2 trillion market for so-called non-agency home-loan securities has widened in recent weeks after the Federal Reserve’s auctions of bonds once held by American International Group Inc. helped roil debt backed by subprime mortgages. Non-subprime securities may face further challenges, analysts at Barclays Capital wrote in a June 24 report.

“It is more likely that the Fed will continue the sale of the prime/Alt-A part of the portfolio” than the subprime-tied portion, the New York-based analysts led by Ajay Rajadhyaksha wrote. “With continued supply and better price performance (vs. subprime) in the past couple of months, Alt-A/prime might face relatively more price pressure in the coming weeks.”

Greek Debate

This month, “as with other risky assets, macro concerns on incoming data and the outcome in Greece continue to weigh on the asset class,” they said.

Bonds of Europe’s most-indebted nations fell today and debt-insurance costs jumped to records before Greek lawmakers started debating spending cuts. The cost of protecting U.S. company bonds from default rose to the highest level since October after a report showed consumer spending unexpectedly stagnated in May.

The Federal Reserve Bank of New York has sold $10 billion in face value of the mortgage securities assumed in the U.S. rescue of AIG and held by a vehicle called Maiden Lane II, leaving it with about $21 billion to be auctioned, Barclays data show. Subprime-mortgage bonds tied to the weakest home-loan borrowers represent about $12 billion of the remaining holdings.

Alt-A Debt

So-called Alt-A debt, which ranks between prime and subprime in terms of expected defaults because the loans were often granted to property investors or without proof of borrowers’ incomes, account for most of the rest. Jumbo mortgages are larger than government-supported Fannie Mae and Freddie Mac can finance, currently from $417,000 in most places to as much as $729,750.

Fixed-rate prime-jumbo mortgage bonds have generally suffered the smallest losses this quarter, with typical prices for the senior-most securities falling 1 cent over the past three months to 89 cents, Barclays Capital data show.

Some parts of the non-agency market are “holding up well,” and what had been a two-year rally in the debt since it hit record lows in 2009 may resume as investors remember that homeowner defaults and a lack of new issuance is shrinking supply, said David Castillo, the San Francisco-based head of sales and trading at broker Further Lane Securities. The market has fallen from a peak of $2.3 trillion in 2007, Fed data show.

“It’d make sense there’d be a little breather,” Castillo said in a telephone interview.

‘The Bottom’

A Markit ABX index tied to subprime-mortgage bonds rated AAA when issued in 2006 fell 2.2 to 46.4 last week, down from 58.8 on April 1, according to London-based administrator Markit Group Ltd. The index, whose levels signal investors may pay similar amounts in cents on the dollar for similar bonds, has fallen from a two-and-a-half year high of 62.7 in February, after soaring from 28.7 in June 2009.

“This represents the bottom for ABX prices in this double dip,” Bank of America Merrill Lynch analyst Chris Flanagan wrote in a June 24 report, saying his view also applies to other “risky assets.”

Flanagan said that’s because year-over-year declines in home prices will get smaller, citing data released last week. In April, values fell 5.7 percent from a year earlier, compared with March’s 6.2 percent drop, the Federal Housing Finance Agency said June 22. The declines, which narrowed to 0.4 percent in November 2009, reached as large as 9.7 percent in 2008.

Holdings by Wall Street’s primary dealers of fixed-income assets including non-agency home-loan securities, corporate debt and commercial-mortgage bonds swelled to a 13-month high of $94.9 billion in the week ended May 25, helping spark a stampede by investment banks to dump risk this month, Fed data show.

The total, which had climbed from $85.7 billion at the end of last year and includes only notes maturing in more than one year, tumbled to $83.6 billion in the week ended June 15, the lowest since August, according to the latest data.

To contact the reporter on this story: Jody Shenn in New York at jshenn@bloomberg.net
To contact the editor responsible for this story: Alan Goldstein at agoldstein5@bloomberg.net