Portfolio Managers Report: Are You Biased? 08/09/24

Friday, August 9, 2024
MANAGING DIRECTOR: Scott Carrithers PORTFOLIO SALES AND SERVICE: Chris Thompson • Sean Doherty • Kevin Doyle • Mark Tranckino Natalie Regan • Aaron Stoffer • David Farris • Lonnie Harris • Brian Schaff Jeff Macy • Josh Kiefer • Tom Toburen • Todd Czinege

US Treasury Market
Date	1 mo	3 mo	6 mo	1 yr	2 yr	3 yr	5 yr	7 yr	10 yr	20 yr	30 yr
08/02/24	5.33	5.18	4.84	4.37	3.88	3.71	3.62	3.67	3.79	4.18	4.11
08/05/24	5.36	5.21	4.88	4.40	3.92	3.78	3.64	3.69	3.79	4.17	4.07
08/06/24	5.33	5.21	4.95	4.50	3.98	3.82	3.73	3.76	3.89	4.27	4.18
08/07/24	5.34	5.22	4.95	4.43	3.96	3.80	3.76	3.83	3.94	4.33	4.25
08/08/24	5.34	5.22	4.98	4.47	4.04	3.88	3.83	3.88	3.99	4.37	4.28

The data in the table above is static as of the time it was pulled, so rates may have changed. Treat all data in this table and PMR as indications only and availability is
always subject to change. This information was pulled manually from sources we believe to be reliable. New source, as of 12/12/2022, Bloomberg, L.L.P. As of: close
of business 08/08/2024.

Are You Biased?

Recency Bias is the cognitive bias to favor recent outcomes over historical events. It is one of the most common pitfalls to impact any investor. Now over 2 years into a tightening cycle, it can be hard to break the mindset of rates being higher for longer.

One of the most common cognitive biases we see in investors, and MBS models, is the idea that conditional prepayment rates “CPR” will stay low well into the future. Historically our trading desk has advocated over the life of an MBS pool you will typically not average less than a 6 CPR. This cycle has been no different with CPRs still averaging over 6 CPR.

Stepping back and looking at past cycles, we see CPRs typically ramp into the 25-45 CPR range in aggregate into a refi wave or lower rate cycle. This time we would expect a similar ramp to occur, especially for premium dollar price MBS pools. We recommend not falling for the trap that CPRs will stay low forever.

So why is this important? When you are comparing a fixed rate MBS pool at par vs a bullet like structure (DUS, taxable muni, etc) it is important to understand how a ramping CPR could impact your return profile. While fixed rate MBS pools still remain above historical average spreads, your MBS pool could still outperform in most scenarios. It is important to always run the numbers.
Below is a great example of an “optically” wide fixed rate MBS pool vs a tight window DUS pool; less than half year variance between 0 CPY and 100 CPY. Investigating the range of outcomes is extremely important versus making an investment decision purely on the base case projected yields. A year from now we are not likely to be in the exact same environment as today. The right structure or investment is especially important if your rate bias is that interest rates will fall.

In the base case, the 15yr 4.5% pool is projected to slightly outperform the DUS pool.

If you believe rates will likely fall and you want to protect your balance sheet from lower rates, we believe DUS is a solid investment option. Our analysis shows that it outperforms in rising interest rate shocks as the DUS pool does not extend unlike an MBS pool. This is not to say you should avoid any one sector or type of instrument, as diversification in any portfolio is key and warranted. A strategy we like is being overweight in structures that outperform given current market conditions.

Please reach out to your Capital Markets Group representative to discuss options to match your bias and balance sheet.

This information is intended for institutional investors only. The material provided in this document/presentation is for informational purposes only and is intended solely for private use. Past performance is not indicative of future results. This material is not intended as an offer or solicitation for the purchase or sale of any financial instruments.

•Not FDIC Insured •No Bank Guarantee •May Lose Value