By the Numbers
Flight to liquidity creates opportunity in Ginnie Mae MBS
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Recent underperformance in Ginnie Mae MBS should provide an attractive entry point for depositories to add Ginnie Mae MBS outright and for money managers to shift some exposure out of conventional MBS into Ginnie Mae. Recent underperformance likely reflects investors’ reach for better liquidity in conventional MBS against the backdrop of heightened market volatility. Recent history suggests these dislocations tend to be short-lived. Ginnie Mae MBS have already begun to retrace and may continue to tighten further.
Tracking past performance
Experience shows that in periods of market stress, Ginnie Mae MBS will often underperform conventional as investors look to add more liquid conventional MBS, shed exposure to less liquid Ginnie Mae MBS or, in some cases, both. Historically, dislocations in Ginnie Mae MBS OAS relative to conventional MBS tend to episodic and short lived, generally retracing relatively quickly.
During the early stages of COVID related market volatility, Treasury OAS on Ginnie Mae MBS widened substantially more than that of conventional MBS. Looking at the trough to peak change in the first two weeks of March 2020 shows that Treasury OAS on par-coupon Ginnie Mae MBS widened by nearly 160 bp from a tight of -46 OAS to a peak of 110 OAS. Par-coupon conventional MBS, by comparison, saw spreads widen less than 100 bp over the same period (Exhibit 1). Subsequent intervention by the Federal Reserve to purchase of both US Treasuries and agency MBS helped drive Ginnie Mae OAS back through previously observed tights.
Exhibit 1: Ginnie Mae MBS underperforms under liquidity stresses
Source: Santander US Capital Markets, Bloomberg LP
A similar but more muted pattern played out in March 2023 when Silicon Valley Bank and other institutions failed and ultimately went into FDIC receivership. Spreads on Ginnie Mae MBS widened by just over 15 bp from 10 to 26 OAS while conventional OAS widened by 5 to 6 bp.
Dislocation in Ginnie Mae OAS already beginning to retrace
Recent tariff-related volatility drove par-coupon Ginnie Mae OAS wider by roughly 20 bp from an April 1 reading of 31 bp to a local peak of 52 bp. Widening in par-coupon conventional MBS OAS was less than half that in Ginnie Mae, widening by just 8 bp from 35 to 43 OAS. Recent announcements from Treasury and the administration around the de-escalation of a potential trade war with China have helped push spreads on both conventional and Ginnie Mae MBS tighter with OAS on Ginnie Mae MBS gapping in by 10 bp leaving OAS on Ginnie Mae MBS 2 bp wider than conventionals at 40 bp and 38 bp respectively. A continued downturn in headline related volatility and related liquidity concerns should help push spreads on Ginnie MBS back inside those of conventionals.
Implications for depositories
Recent underperformance may serve as a catalyst for depositories to increase holdings of Ginnie Mae MBS. One technical driver which generally keeps Ginnie Mae spreads inside of those of conventional MBS is Ginnie Mae’s preferential treatment under US depositories’ regulatory capital and liquidity regimes. Ginnie Mae MBS require no risk-based capital to be held against them on bank balance sheets and do not receive any haircut to their value when applied against a bank’s required liquidity under the LCR regime. Increased net demand from banks will likely come in the form of either current coupon pass throughs and floating rate CMOs, where spreads could tighten and outperform other MBS exposures if increased net demand is manifested.
Implications for money managers
Relative cheapness in Ginnie Mae MBS could also drive a marginal shift out of conventional MBS from large asset managers as well. Money managers may view this as an opportunity to pare back some degree of conventional MBS given headline driven spread volatility around GSE reform. While still unclear, there is a distinct possibility that as early as next month the market may receive guidance on both the establishment of a US sovereign wealth fund and the potential inclusion of the equity in both Fannie Mae and Freddie Mac in that fund. Any move out of conservatorship, even to a sovereign wealth fund with an implicit guarantee that parallels that of an explicit full faith and credit one would likely drive spreads on conventional MBS wider in the near term in the wake of such announcement. Spreads would likely retrace as the market begins to digest the implications of the move out of conservatorship. However, asset managers may see recent underperformance in Ginnie Mae MBS as an opportunity to pare back exposure to GSE headline risk.
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