After more than a decade of strict regulations regarding pooling mortgage backed securities that are primarily being controlled by government institutions such as Fannie Mae and Freddie Mac, it seems as though private banks are finally getting back into the business of putting out their own MBS.
The Trump administration has tried to reduce the amount of regulation surrounding MBS lately, proposing to downsize Fannie Mae and Freddie Mac and privatize the two institutions.
The non-agency MBS revival movement was spearheaded by JP Morgan (NYSE: JPM), but also included the efforts of Wells Fargo (NYSE: WFC), Citi (NYSE: C) and Credit Suisse (NYSE: CS).
"We continue to be excited about, and focused on, developments within the 'next generation' non-agency mortgage markets," said Greg Parsons, chief executive officer of Semper Capital Management, a $3 billion fund with a mortgage bond focus. "Citigroup and Credit Suisse are both examples of issuers/bank institutions that traded these non-agency mortgage securities during and after the crisis, and they have remained involved in various facets of issuing transactions within mortgage sectors."
The previous role of private middleman that banks used to take whilst pooling together and selling MBS bonds has shrunk drastically from pre-crisis levels that used to sit at around a trillion dollars. That said, last year, around $70 billion of mortgages entered the non-agency market, the highest its been since 2007. For context, this is around 2% of the total MBS market as compared to what used to be around 40% in 2005.
The reason the market is veering away from Fannie and Freddie-backed bonds is because they assume less risk, because they are backed by the government and subsequently carry less default risk. However, a less risky asset usually implies lower yields due to the risk premium theory and therefore the market is trying to get back some of its original gains.
Kroll Ratings Agency gave a bunch of the Credit Suisse MBS bonds its finest Triple A ratings, but also warned that: "result in payment shock," that can be "significant, particularly for those originated in a historically low interest rate market.
Geographic concentrations can "expose a transaction to larger impact from regional economic effects or natural disasters relative to more nationally diverse pools," Kroll wrote of its assessment of the Credit Suisse bond report.