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For the first time, Fannie Mae prices a new risk sharing deal

Brent Nyitray, CFA, MBA

Fannie Mae launches a $675 million risk sharing bond deal, the first of its kind out of Fannie Mae

As part of its agreement with the government, Fannie Mae recently launched a risk sharing bond, where investors would receive part of the guarantee fee in exchange for bearing some of the credit risk. Freddie Mac did a similar deal first, but Fannie Mae was able to get the senior tranches rates. This deal is part of a government push to “crowd in” private capital into the US mortgage market. The ultimate goal for the government is to have the private markets bear the insurance risk and for the government to be in a re-insurer role. In other words, it would like to see private insurance bear the first 10% of losses on Fannie Mae and Freddie Mac paper, and only step in once that 10% threshold is crossed.

Terms of the deal

The bonds are in two tranches: an M-1 tranche, which priced at one month LIBOR plus 200 basis points, and an M-2 tranche, which was one-month LIBOR plus 525 basis points. Demand was strong, and both deals were priced at the high end of the range. The deal is backed by a pool of 112 thousand single-family mortgages with an unpaid principal balance of $27 billion. Investors ranged from asset managers, mutual funds, pension funds, REITs, and hedge funds to insurance companies and banks. The M-1 tranche was $337.5 million, ten-year maturity, expected life of 2.18 years, with a severity schedule. The first 1% of net credit events has a 10% loss severity, the second 1% has a 20% loss severity, and further increases have a 40% loss severity. It was rated BBB-. The M2 tranche was unrated, and it has a maturity of ten years and an expected life of 8.2 years. As you can see from the chart above, recent vintage loans have performed extremely well.

Implications for mortgage REITs

For the REITs like Annaly (NLY), American Capital Agency (AGNC), MFA Financial (MFA), Hatteras (HTS), or Capstead (CMO), this is a new type of security other than the plain vanilla mortgage-backed securities or mortgage servicing rights. It will provide them with different exposure and different sensitivity to interest rates. Modeling this type of security may prove difficult. However, it will provide some measure of diversification for mortgage REITs.

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