For the past few months, mortgage strategists from Stifel have been suggesting hybrid adjustable rate mortgage (ARM) pools. These securities have a “fixed-tofloat” structure, and the investor can pick the term of fixed period from three to 10 years. With the inverted yield curve, the shorter “roll date” securities have higher initial yields and lower effective durations, both of which bargain hunters seek. Many other measures of relative value favor hybrids over straight pass-throughs: lower prices, wider spreads, better total returns. About the only metric that would favor the MBS over the hybrid is liquidity, which is a conversation worth having with your brokers. Another favorite entrée is a well-structured collateralized mortgage obligation (CMO). One of the benefits of a CMO over the “collateral,” which is the MBS used to build out the various classes of an issue, is that an investor can choose tranches with specific coupons, prices, cash flows and principal payment windows that better fit the community bank’s needs. Finally, while supplies of these MBS alternatives are limited, brokers should be able to locate some offerings of both given reasonable parameters. This includes securities bearing the GNMA label, which many investors like for the full-faith-andcredit, 0% risk-weighting feature. Just Desserts The final item on this month’s menu has been offered before (see Independent Banker March 2023), but now with a few additional ingredients. Rarely, if ever, have such a wide range of pass-through rates on mortgage securities been available simultaneously. This gives a portfolio manager a delectable set of options. The only selections that are not available at the moment are premium MBS; par (100.00) and discount pools are what the market is serving. The good news is that discount pools can be found at virtually any price. As of this writing, 15-year 4.0% pools are priced with a 96 handle, while 15-year 2.0%s are in the 86 range. (Disclosure: Be aware that the lower the coupon, the tighter the yield spreads.) You can also take this one step further with the CMO market. It’s possible to locate a given tranche with a significantly discounted price, even though the collateral is more “current coupon.” This could potentially create an opportunity for some improved cash flow if and when rates begin to recede, as the newer loans with 7%- plus borrowers’ rates will be the most responsive to refinance opportunities. In Epicurean terms, it “tastes great, less filling.” There, you have an enticing bill of fare. Straight pass-throughs with wide yield spreads, hybrid ARMs with great total return characteristics and well-built CMOs can create a veritable smörgåsbord for your community bank’s bond portfolio. NEBRASKA INDEPENDENT BANKER 11
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