Written by Darren Stumberger, as originally published in The Reverse Review.

As we move into late December, spreads for HMBS are drifting wider. After the May/June swoon, spreads retraced about one-half to three-fourths of the widening in the third and fourth quarters. However, spreads were wider by 10 in mid-December from the local tights and I expect more widening in the last couple of weeks of the month and in the early part of January.

Production has been dominated by the Libor Standard collateral and the last remaining $100 million is being flushed from the pipelines as we head into the new year. Libor Standard spreads are out to the low to mid-70s with more room to widen after touching the high-50s discount margin. Typically, we see Libor collateral execute best in HREMIC form, but given the tightening in October through early December, HREMICs were non-creatable and most if not all Libor production was sold in pool form.

Saver collateral is also being flushed out with spreads for fixed rate in the mid- to high 80s to swaps and Libor in the high-90s to low-100s discount margin. This collateral has always paid at elevated speeds and pool sizes have been pretty small. Once Bank of America, Wells Fargo and MetLife exited the market, this product became less and less relevant. New 2014 production has been trickling into the market in low volumes at spreads 20 to 30 points wider than old production. Whether we go tighter or wider from here will largely be driven by how this new production prepays. Secondary activity has remained lumpy as the most routine activity stems from small community banks and credit unions, and every once in a while a large list from institutional players. In December, we saw $90 million of seasoned fixed rates out of a money manager, and average life profiles ranged from one to three years at 100 HPC (HECM Prepayment Curve). Additionally, there was $185 million of HECM IOs that traded very well from the 2012 vintage.

In terms of volumes, Urban Financial Group, now Urban Financial of America, led the pack of issuers with just over $200 million and a 23 percent of market share. RMS came in second with $199 million at a 22.8 percent market share. Industry-wide, more than $870 million was issued,  which exceeded October’s total of $760 million and September’s total of $662 million. There are currently 10 Ginnie Mae issuers, with Plaza Home Mortgage most recently coming online to issue directly versus selling closed loans. In all, the top five issuers comprise 83 percent of issuance. In regard to HREMICs, there was only one transaction brought to market in November by Stifel Nicolaus for $86 million. This is down from October, when there was $226 million brought to market by Stifel and BAML; and from September, when Stifel, BAML and Nomura brought $533 million to market.

Prepayment speeds in the HECM sector continue to slow down with seasoning. Fixed Standard speeds run from 80 to 100 percent of the HECM prepayment curve in the first 12 to 18 months, and then slow all the way down to 15 to 30 percent of the curve over the next three to four years. Monthly CPRs (Conditional Prepayment Rates) start at around five and slow to below two. These numbers reflect just the unscheduled prepayment activity (as opposed to scheduled prepays/98 percent buyouts), which is the correct way to illustrate prepayment behavior. Libor Standard prepays are faster and a bit more volatile. They typically run 100 to 200 percent of the HPC for the first three years after origination and then start to slow to 50 to 80 percent in years three to six. Saver speeds have been wildly erratic, running between 300 to 500 percent of the HPC and fixed rate 100 to 300 percent.

All in all, the immediate outlook looks fairly challenging for the industry. After this year-end surge, volumes will come under significant pressure in the early months of the new year. Originators will hope to get nonconforming origination going and it will be interesting to see what volume this brings forth to subsidize lost HECM volume. Paring of overhead and possibly more consolidation may come over the next 12 to 18 months as originators will be forced to increase penetration rates and rebrand this mortgage to consumers.