Morning Report: Change in taxation of MSRs?

Vital Statistics:

S&P futures4,446-16.2
Oil (WTI)66.42-2.45
10 year government bond yield 1.27%
30 year fixed rate mortgage 3.07%

Stocks are lower after weaker-than-expected economic data out of China and continuing fears about COVID. Bonds and MBS are up.

In terms of economic data this week, we will get retail sales, industrial production, and housing starts. Jerome Powell will speak on Tuesday, and we will get the FOMC minutes on Wednesday.

As part of the infrastructure package, the government is looking at what is basically an Alternative Minimum Tax for corporations. It supposedly would look at increases in book value and tax that at 15% as a floor. One area that would impact mortgage originators is mortgage servicing rights. As of now, mortgage servicing rights are capitalized when created, and there is no income realized until the they are sold or fees are collected.

Under the new proposal, they would be taxed immediately, since book value increases once they are capitalized. Given the issues with potential Basel-like capital requirements for non-bank GNMA originators, MSR pricing in the secondary market will remain under pressure.

United Wholesale reported second quarter earnings this morning. Volumes increased 20% to $59 billion, however gain on sale margins were down big, more or less as expected. In the first quarter, gain on sale margins were 2.19% and they fell to 0.81% in the second quarter. FWIW, the company guided on its Q1 earnings call that margins would be down big in Q2, although Matt Ishbia also expected that to be the bottom. For the third quarter, UWM is guiding for volumes to to come in at $57-62 billion and for gain on sale margins to be in the 0.75% – 1.00% range. Note that Rocket on Friday also guided that the margin compression is probably over as well.

The big question for the mortgage market is when to begin the tapering process (or reducing the current $80 billion a month pace of MBS and Treasury purchases). The Fed wants to avoid a repeat of the 2013 “taper tantrum” where Treasury yields got away from them quickly. It sounds like it could start anywhere from September to mid-2022.

The big difference between 2013 and today is the state of the economy. In December 2013 the Fed started reducing its purchases and unemployment was 6.7%. Today, unemployment is at 5.4%. Inflation is higher as well, although much of that is due to supply chain constraints which can’t be influenced by monetary policy. Labor constraints are also an issue, and that is increasing the cost of homebuilding and the Fed is wary of the fast pace of home price appreciation. While the Fed can’t control the supply and demand imbalance in the housing market, they can influence mortgage rates. This issue will probably push up the tapering process, especially for MBS purchases. We will have to see how home prices look as we head into the seasonally slow period.

One important thing to keep in mind is that MBS spreads (that is the difference between the yield on Treasuries and MBS) were much wider during 2013, with the spread reaching something like 150 basis points. Today, spreads are closer to 70 basis points. If history repeats itself, we should see higher mortgage rates going forward if the economy continues to improve. If it does not, and Treasury yields work lower, mortgage rates will struggle to get much lower.


Author: Brent Nyitray

In the physical sciences, knowledge is cumulative. In the financial markets, it is cyclical

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