By the Numbers
Proposed GSE liquidity rules could raise MBS repo cost
This document is intended for institutional investors and is not subject to all of the independence and disclosure standards applicable to debt research reports prepared for retail investors. This material does not constitute research.
Fannie Mae and Freddie Mac face a set of new rules proposed in December that could increase the cost of financing MBS using repo transactions. The new rules, proposed by the Federal Housing Finance Agency, their regulator, would significantly limit the GSEs’ ability to finance cash positions using MBS repo, and this could raise the cost for investors that use repo transactions to finance their MBS positions. Spreads have already widened even though the rule is not finalized and will not be effective until September 2021, possibly because the GSEs have already scaled back their involvement in the market.
The FHFA has long required the GSEs to maintain a portfolio of high-quality liquid assets to protect their ability to serve the mortgage markets during periods of financial stress. But FHFA is proposing to exclude agency MBS and agency MBS repo transactions from the list of allowable investments. It is important that the GSEs can provide liquidity to markets during periods of stress. The GSEs could exacerbate a liquidity crisis if they also needed to sell MBS to raise cash.
It is believed the GSEs have been heavily involved in agency MBS repo transactions. Each month servicers remit scheduled principal and interest and principal from prepayments to the GSEs. The amount cash can be very high. It averaged $85 billion a month from 2014 through 2019 and jumped to roughly $170 billion in 2020 due to fast prepayment speeds. This cash is held for roughly 10 days before it is paid to MBS investors. The GSEs can invest this cash during that period, and it is believed they often bought agency MBS in repo transactions.
The liquidity requirements need to be calculated each day. Once the GSEs receive the principal and interest payments, their liquidity needs will jump due to the upcoming payments to MBS investors. That will force most, if not all, of the cash received to be invested according to the liquidity portfolio’s rules. Fifty percent are required to be invested in Treasury debt or held in cash at the Fed. Under the proposed rules the remaining fifty percent can also be used for Treasury repo transactions and a limited amount in unsecured overnight deposits with eligible U.S. banks. But agency MBS and agency MBS repo are no longer permitted.
The new rules also increase the amount of liquid capital the GSEs are required to hold. The amounts are calculated under various stress scenarios. For example, they assume the GSEs are unable to raise cash by issuing debt, that mortgage delinquencies increase, and that the five largest non-bank servicers fail to remit timely principal and interest. They will also need to carry a $10 billion excess to cover any errors and other unforeseen shortfalls. Although the FHFA notes that the GSEs currently “meet or exceed all requirements of the proposed rule,” it seems unlikely that the GSEs will have much cash to invest in MBS repo after meeting their liquidity requirement. MBS investors should find that the cost of repo financing increases as the GSEs exit that market.
FHFA proposed the new rules on December 17 and will take commends until March 9. The FHFA notice of the rules is here.
This material is intended only for institutional investors and does not carry all of the independence and disclosure standards of retail debt research reports. In the preparation of this material, the author may have consulted or otherwise discussed the matters referenced herein with one or more of SCM’s trading desks, any of which may have accumulated or otherwise taken a position, long or short, in any of the financial instruments discussed in or related to this material. Further, SCM may act as a market maker or principal dealer and may have proprietary interests that differ or conflict with the recipient hereof, in connection with any financial instrument discussed in or related to this material.
This message, including any attachments or links contained herein, is subject to important disclaimers, conditions, and disclosures regarding Electronic Communications, which you can find at https://portfolio-strategy.apsec.com/sancap-disclaimers-and-disclosures.
Important Disclaimers
Copyright © 2025 Santander US Capital Markets LLC and its affiliates (“SCM”). All rights reserved. SCM is a member of FINRA and SIPC. This material is intended for limited distribution to institutions only and is not publicly available. Any unauthorized use or disclosure is prohibited.
In making this material available, SCM (i) is not providing any advice to the recipient, including, without limitation, any advice as to investment, legal, accounting, tax and financial matters, (ii) is not acting as an advisor or fiduciary in respect of the recipient, (iii) is not making any predictions or projections and (iv) intends that any recipient to which SCM has provided this material is an “institutional investor” (as defined under applicable law and regulation, including FINRA Rule 4512 and that this material will not be disseminated, in whole or part, to any third party by the recipient.
The author of this material is an economist, desk strategist or trader. In the preparation of this material, the author may have consulted or otherwise discussed the matters referenced herein with one or more of SCM’s trading desks, any of which may have accumulated or otherwise taken a position, long or short, in any of the financial instruments discussed in or related to this material. Further, SCM or any of its affiliates may act as a market maker or principal dealer and may have proprietary interests that differ or conflict with the recipient hereof, in connection with any financial instrument discussed in or related to this material.
This material (i) has been prepared for information purposes only and does not constitute a solicitation or an offer to buy or sell any securities, related investments or other financial instruments, (ii) is neither research, a “research report” as commonly understood under the securities laws and regulations promulgated thereunder nor the product of a research department, (iii) or parts thereof may have been obtained from various sources, the reliability of which has not been verified and cannot be guaranteed by SCM, (iv) should not be reproduced or disclosed to any other person, without SCM’s prior consent and (v) is not intended for distribution in any jurisdiction in which its distribution would be prohibited.
In connection with this material, SCM (i) makes no representation or warranties as to the appropriateness or reliance for use in any transaction or as to the permissibility or legality of any financial instrument in any jurisdiction, (ii) believes the information in this material to be reliable, has not independently verified such information and makes no representation, express or implied, with regard to the accuracy or completeness of such information, (iii) accepts no responsibility or liability as to any reliance placed, or investment decision made, on the basis of such information by the recipient and (iv) does not undertake, and disclaims any duty to undertake, to update or to revise the information contained in this material.
Unless otherwise stated, the views, opinions, forecasts, valuations, or estimates contained in this material are those solely of the author, as of the date of publication of this material, and are subject to change without notice. The recipient of this material should make an independent evaluation of this information and make such other investigations as the recipient considers necessary (including obtaining independent financial advice), before transacting in any financial market or instrument discussed in or related to this material.
Important disclaimers for clients in the EU and UK
This publication has been prepared by Trading Desk Strategists within the Sales and Trading functions of Santander US Capital Markets LLC (“SanCap”), the US registered broker-dealer of Santander Corporate & Investment Banking. This communication is distributed in the EEA by Banco Santander S.A., a credit institution registered in Spain and authorised and regulated by the Bank of Spain and the CNMV. Any EEA recipient of this communication that would like to affect any transaction in any security or issuer discussed herein should do so with Banco Santander S.A. or any of its affiliates (together “Santander”). This communication has been distributed in the UK by Banco Santander, S.A.’s London branch, authorised by the Bank of Spain and subject to regulatory oversight on certain matters by the Financial Conduct Authority (FCA) and the Prudential Regulation Authority (PRA).
The publication is intended for exclusive use for Professional Clients and Eligible Counterparties as defined by MiFID II and is not intended for use by retail customers or for any persons or entities in any jurisdictions or country where such distribution or use would be contrary to local law or regulation.
This material is not a product of Santander´s Research Team and does not constitute independent investment research. This is a marketing communication and may contain ¨investment recommendations¨ as defined by the Market Abuse Regulation 596/2014 ("MAR"). This publication has not been prepared in accordance with legal requirements designed to promote the independence of research and is not subject to any prohibition on dealing ahead of the dissemination of investment research. The author, date and time of the production of this publication are as indicated herein.
This publication does not constitute investment advice and may not be relied upon to form an investment decision, nor should it be construed as any offer to sell or issue or invitation to purchase, acquire or subscribe for any instruments referred herein. The publication has been prepared in good faith and based on information Santander considers reliable as of the date of publication, but Santander does not guarantee or represent, express or implied, that such information is accurate or complete. All estimates, forecasts and opinions are current as at the date of this publication and are subject to change without notice. Unless otherwise indicated, Santander does not intend to update this publication. The views and commentary in this publication may not be objective or independent of the interests of the Trading and Sales functions of Santander, who may be active participants in the markets, investments or strategies referred to herein and/or may receive compensation from investment banking and non-investment banking services from entities mentioned herein. Santander may trade as principal, make a market or hold positions in instruments (or related derivatives) and/or hold financial interest in entities discussed herein. Santander may provide market commentary or trading strategies to other clients or engage in transactions which may differ from views expressed herein. Santander may have acted upon the contents of this publication prior to you having received it.
This publication is intended for the exclusive use of the recipient and must not be reproduced, redistributed or transmitted, in whole or in part, without Santander’s consent. The recipient agrees to keep confidential at all times information contained herein.
