The Waiting Game: Jumbo Spreads Stay Wide

Fannie Mae and Freddie Mac are moving at a double-time pace to put the mechanisms in place to buy and securitize so-called “jumbo conforming” loans — and signs from the primary market, so far, are that it can’t happen soon enough. Despite the optimism, jumbo spreads remain stubbornly high. Last Friday in its weekly Market Trends report, HSH Associates noted that the spread between between “true conforming” and their jumbo counterparts now stands at 130 basis points. That’s 6 basis points tighter from the all-time highs HSH recorded the previous week; during the jitters of late-2007, the widest it got was 100 basis points. The modest tightening in the spread over the last week may reflect an improved tone in the capital markets after the Fed-JPMorgan-OFHEO-FHFB series of interventions. It may also reflect the fact that the GSEs have now published rate guidelines, rate adjusters, and pool identifiers for the new “jumbo conforming” programs. At this point, lenders should know most of what they need to in order to originate these mortgages. For example, Freddie Mac has said it expects to offer 90-day pricing and credit coverage for newly-originated conforming jumbos – loans originated after March 1 — using a Guarantor execution (a swap of mortgages for a guaranteed security). The GSE is clearly focusing on mortgages that need to be originated NOW, rather than worrying about those mortgages that have already been originated and would be eligible under the new criteria; the new loan limits established under the Economic Stimulus Act of 2008 are retroactive to cover loans originated between July 1, 2007 and December 31, 2008. Freddie has said it expects to issue final contract and delivery terms to eligible Guarantor customers in April. So when will the secondary market turn it around? I would expect to see the spread begin to tighten tighten this month as lenders begin originating and pooling “jumbo conforming” loans. It could take some time to tighten to so-called “fair value,” generally thought to be about 50-60 basis points after accounting for cash flow risks due to credit and prepayment risk and the lesser liquidity of a non-TBA market. When the higher loan limits were first signed into law in February, most observers thought it would take as long as a full quarter for the GSEs to gear up their models, get the pricing adjustments and tweak the guidelines — if not longer. Clearly, both Fannie and Freddie have taken half that long at best. And, in fact, Freddie is already prepared to approve certain loans in its automated underwriting system, which should further speed originations for lenders who use Loan Prospector. The GSEs have built it; now the lenders have to come. Until then, the only sources I’ve been told about for jumbo loans are the already full-to-the-gills thrifts –- which means a broker would need to have to have a real tight connection with a local institution to get the loans. Editor’s note: Linda Lowell is a mortgage market veteran, and principal of Offstreet Research.