Falling Prepays Highlight Extension Risk.( Fannie Mae and Freddie Mac mortgage)

NEW YORK -- Prepayment rates of 30-year Fannie Mae and Freddie Mac mortgage-backed securities fell significantly in April, and analysts at Bear Stearns & Co. cautioned that this should serve as a reminder of extension risk.

Speeds on 30-year Fannie Mae collateral declined from a constant prepayment rate of 24 CPR to 19 CPR overall, while Freddie Mac speeds declined by similar amounts and remained slower than Fannie speeds, analysts Dale Westhoff and Steven M. Bergantino said in the Bear Stearns Prepayment Commentary.

"Improved seasonal factors affecting turnover gave way to the drag imposed by a sharp backup in rates and a two-day decline in the business calendar," they said.

The Bear Stearns analysts said the drop-off in speeds "should be a reminder of the extension risk currently looming over the fixed-rate mortgage market."

The previous month's prepayment spike "proved that borrowers will still respond quickly to any refinancing opportunities they encounter," the analysts added, while the April numbers "highlight how quickly a sharp backup in mortgage rates could dissipate the residual refinancing that has helped elevate agency speeds over the past year."

The prepayment rates of 15-year Fannie Mae and Freddie Mac collateral declined by 1.5-2.0 CPR in April, less than half the falloff in 30-year collateral. This is because smaller loan sizes, higher rate thresholds (due to faster amortization) and "the relative lack of appeal" of adjustable-rate mortgages to 15-year borrowers make prepayments on such collateral less sensitive to rate changes than comparable 30-year collateral, according to the Bear Stearns analysts.

Meanwhile, in the May issue of Short-Term Prepayment Estimates, Mr. Westhoff and analyst V. S. Srinivasan shined the spotlight on subprime mortgage prepayments.