Valuation Commentary - December '06

The Market & The Models by Alex Levin

I am writing this article with a brain full of 2006 retrospective kaleidoscopes of TV programs touting “Events of the Year,” “Interviews of the Year,” “People of the Year,” etc. Admittedly, I am tempted to turn this article into another “what happened in the MBS market in 2006” story. But I will spare you such a predictable shortcut and will focus instead on an “ADCo and the market” theme, opening the door to our kitchen to share recipes for dealing, interpreting and modeling specific market events. While our views and results don’t always agree with those of major brokers, we genuinely reflect on each deviation as it arises.

Fixed-Rate TBAs Current-Coupons are Expensive, but Not Abnormally
In 2001, I wrote an article, Mortgage Spread Dynamics, for Fabozzi’s Professional Perspectives on Fixed-Income Portfolio Management. After analyzing historical LOAS levels for 1995-2000, I concluded that it had never been found below –20 bps and rarely above +10 bps, for conventional current-coupon issues -- 6 years later, I am sticking to this verdict. The last two times current coupons were wider were in 1998 (the Russian crisis) and in 2003 (refinancing panic). Today’s “tight” levels are not an anomaly.