What Is Agency MBS Purchase?

Agency MBS purchase is the purchase of mortgage-backed securities (MBS) issued by government-sponsored enterprises (GSE) such as Fannie Mae, Freddie Mac, and Ginnie Mae, the latter of which is a wholly owned government corporation. The term is most commonly used to refer to the U.S. Federal Reserve's $1.25-trillion program to purchase agency mortgage-backed securities, which commenced on Jan. 5, 2009 and was completed on March 31, 2010. The purpose was to mitigate the effects of the 2007–2008 Financial Crisis.

The program was restarted on March 15, 2020 during the COVID-19 crisis.

Key Takeaways

  • An MBS is an investment security made up of a parcel of home loans purchased from the issuing banks. Investors receive coupon payments similar to bonds.
  • Agency MBS Purchase typically refers to the Fed's program to purchase $1.25 trillion worth of Agency MBS from government-sponsored entities.
  • The goal was to provide stability to the economy after the 2007–2008 Financial Crisis.
  • The program resulted in the lowering of interest rates and easing of the financial system.
  • The program was restarted during the 2020 COVID-19 crisis.

Understanding Agency MBS Purchase

Mortgage-Backed Securities

It is common practice for banks to sell a large percentage of their active mortgages to participants in the secondary mortgage market. Participants may include institutional investors, private firms, and governmental and quasi-governmental entities. These participants purchase mortgages from banks and package them into pools—a process known as securitization—to create financial securities that can be sold in the open market to investors.

Each pool constitutes a security known as a mortgage-backed security (MBS), which represents an interest in the pool of mortgages. Like bonds, MBSs make coupon payments to investors. An agency MBS is a mortgage-backed security issued by one of three quasi-governmental agencies: Government National Mortgage Association (GNMA or Ginnie Mae), Federal National Mortgage Association (FNMA or Fannie Mae), and Federal Home Loan Mortgage Corporation (Freddie Mac).

The Purpose of Agency MBS Purchase

Following the credit crisis that started in 2007, the Federal Open Market Committee (FOMC) sought to provide further policy stimulus by increasing their holdings of fixed-rate agency MBSs in its portfolio in order to lower long-term interest rates, thereby providing ease to the overall economy.

The goal of the Federal Reserve's $1.25 trillion agency MBS purchase program was to provide support to mortgage and housing markets and to foster improved conditions in financial markets. When the Federal Reserve commenced these purchases in Jan. 2009, the U.S. and global equity markets were trading at multiyear lows amid an intense credit crunch, and there was widespread concern about the global economy heading for a depression.

The goal was to reduce long term interest rates. When an entity purchases a significant amount of bonds in the market, it increases the price of the bonds. Bond price and their yield/interest rate have an inverse relationship. So as the price goes up, the interest rate will go down. Lower interest rates stimulate the economy as it makes borrowing cheaper.

The Impact of Agency MBS Purchase

Agency MBS purchases are carried out by the New York Fed’s Open Market Trading Desk as authorized by the FOMC. The Agency MBS securities are purchased in their portfolio, the System Open Market Account (SOMA). Principal payments received from these holdings are reinvested by the Trading Desk in newly-issued MBS securities backed by Fannie Mae, Freddie Mac, or Ginnie Mae. Purchases of agency MBS increase the quantity of reserve balances in the banking system.

The MBS purchase program was instrumental in providing price support to these securities and dissipating the panic that had gripped many market participants. By the time the Federal Reserve completed the purchase program in March 2010, the S&P 500 had appreciated significantly and global equity markets had been in full rally mode for over a year, perhaps exceeding the Fed's most optimistic expectations.