Fannie Mae and the to-be-announced (or TBA) market
When the Federal Reserve talks about buying mortgage-backed securities (or MBS), it’s referring to the to-be-announced (or TBA) market. The TBA market allows loan originators to take individual loans and turn them into a homogeneous product that you can trade. TBAs settle once a month.
Fannie Mae loans go into Fannie Mae securities. TBAs are broken out by coupon rate and settlement date. In the chart below, we see Fannie Mae’s 3.5% coupon for January delivery.
TBA market rises along with the bond market
The Fannie Mae 3.5% TBA started the week at 104 19/32 and picked up 17 ticks to close at 105 6/32. Bonds rallied 17 basis points. Mortgage rates have grudgingly followed the ten-year lower, but they finally moved a bit last week.
Last week, President Obama made some changes to the mortgage insurance premiums for FHA loans. This caused Ginnie Mae TBAs to sell off relative to Fannie Mae TBAs. Part of the rally in Fannie Mae TBAs might have been due to REITs switching out of Ginnie Mae TBAs and into Fannie Mae TBAs.
Implications for mortgage REITs
Mortgage real estate investment trusts (or REITs) and ETFs like Annaly Capital Management (NLY), American Capital Agency (AGNC), Capstead Mortgage (CMO), the iShares 20+ Year Treasury Bond ETF (TLT), and the VanEck Vectors ETF Trust (MORT) are the biggest non-Central bank holders of TBAs.
In general, you can consider mortgage REITs to be one of the biggest lenders in the mortgage market. When TBAs rally, it means capital gains for mortgage REITs, which increases their return, especially when added to their interest income.
Investors should take caution, however. Since REITs use leverage, volatility in interest rates can work against them. This is because REITs watch their interest rate risk and adjust their hedges accordingly. If rates fall too rapidly, hedging volatility and prepayments can offset some of their gains.