By the Numbers
Fannie Mae, Freddie Mac take some of their cash (window) back
Brian Landy, CFA | May 7, 2021
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.
Freddie Mac and possibly Fannie Mae are preparing to scale back their cash purchases of mortgages in July, much sooner than previously announced. Both enterprises, at the direction of their regulator, are planning to limit cash purchases to $1.5 billion dollars per originator in any 4-quarter period. Freddie Mac’s most recent 10-Q noted the FHFA has directed the agency to apply these caps starting July 1 this year instead of the previously announced January 1, 2022. Cash window pools accounted for 56% of Freddie Mac’s MBS issuance and 26% of Fannie Mae’s MBS issuance in the 12 months ended in January.
Several large originators have dominated cash window issuance. The tables show cash window volumes over the 12 months preceding the January announcement for the 10 largest sellers at Freddie Mac (Exhibit 1) and Fannie Mae (Exhibit 2). For smaller sellers, the volume is separated into the amount above and below the per-originator $1.5 billion annual cap. Volumes are also shown for each of the three months following the announcement. These numbers are scaled up to represent annualized volumes, which makes it easy to compare to the preceding 12 months volume and to the $1.5 billion annual cap.
Exhibit 1: Freddie Mac’s cash window issuance ($Million)
Exhibit 2: Fannie Mae’s cash window issuance ($Million)
Cash window usage has not fallen following the January announcement, since the annualized issuance in February, March and April 2021 is generally higher than the volume over the preceding year. Lenders and the GSEs have not begun to scale back cash window use in preparation for the cap. This means that all of the large lenders will be cut off from accessing the cash window at the GSE they have been selling to if the cap is enforced in July. It is likely that Fannie Mae’s cash window issuance will fall at least 30% and Freddie Mac’s issuance fall at least 60% if the cap were enforced across all lenders in July.
Large originators may have an opportunity. Many have been encouraged to use the cash window, and pricing was favorable. But the large originators generally have the systems in place to create their own pools, so their own operations likely will not be disrupted by a transition away from the cash window. And conversations with originators has confirmed they feel ready for a July 1 effective date. However, smaller lenders that are operating above the cash window cap may not be ready to create their own pools or may find it more difficult to market them. Larger originators can operate as correspondent lenders to fill the void left by the GSEs’ exit.
Dealers may also benefit from this transition since they likely will not have to compete with the cash window bid for loans from smaller originators. Dealers can acquire pools from multiple smaller lenders and combine them into larger pools, called supers, or include them in CMOs. Analysis of prepayment speeds for originators and servicers can identify lenders whose pools should offer better convexity, and combining multiple lenders adds diversity. Having a view on prepayment behavior by lender should become more important as the cash windows scale back.
This change could increase the volatility in the mortgage market during times of stress, such as at the onset of the Covid-19 pandemic. The cash windows are an important source of liquidity in times of crisis. Compared to the GSEs, private lenders are more likely to curtail correspondent loan purchases and dealers are more likely to stop buying pools for supers and CMOs. The cash window may maintain or even increase the volume of purchases, although at wider spreads. Originators can still deliver into the major pool but would lose any potential pay-up for loans that could have gone into specified pools. And the lender still needs to sell their share of the major pool to get cash, so it does not offer the same liquidity as the cash window, which pays almost immediately.
The cash windows have also become an important source of visibility into specific pool pay-ups. The cash windows regularly auctioned large specific pools backed by diverse originators. These auctions should become much smaller.
The MBA sent a letter to its members objecting to the accelerated implementation of the caps on cash window purchases. They are pressing Treasury to withdraw this change and to reconsider other changes, such as the forthcoming 7% cap on purchases of loans for investment properties and second homes. Much hinges on a Supreme Court ruling expected this summer that could permit the President to replace the director of the FHFA. If the President chooses to do so the new director could work with the Treasury to modify or eliminate the limits on use of the cash window, caps on investment properties, and other forthcoming changes.