Nov 24 2014, 12:51PM

The Federal Reserve has completed its latest round of Quantitative Easing, the government sponsored enterprises (GSEs) Freddie Mac and Fannie Mae are under orders to continue shrinking their investment portfolios and significant constraints exist to keep private investors from purchasing agency mortgage-backed securities (MBS). So who, the Mortgage Bankers Association (MBA) asks, is going to pick up the slack?

A white paper written by MBA’s vice president and senior economist Michael Fratantoni, lays out the conundrum facing the MBS market. Fratantoni says both policy makers and the housing industry have a common interest in bringing private capital into the mortgage markets but the key question is how and in what form that private capital can best reenter the system. MBA has advocated for private capital to have a larger role in covering credit risk within the government guaranteed, conforming portion of the market but we need to consider how to draw it to the interest-rate risk of the conforming market and how to reengage it for lending outside of the government guaranteed system.

For years, the GSEs’ ability to issue long-term fixed-rate debt appeared to be a stabilizing factor for the U.S. housing finance system. Long-term, fixed-rate debt issued by the GSEs was a better match for funding long-term fixed-rate MBS than other funding instruments but the GSEs’ purchase of fixed-rate MBS with minimal capital turned out instead to be destabilizing because they did not have enough skin-in the game.

The GSE’s investment portfolios which once topped more the $1.5 trillion have been reduced under their post-crash agreement with Treasury, to less than $1 trillion. Fratantoni said he is not arguing with that policy choice but those portfolios did historically serve to channel global capital into the U.S. mortgage market absent bearing the uncertain cash flows from directly owning mortgages or MBS. Now it has to be asked how the market can be structured to attract stable private capital over time without GSE investment portfolios playing that role.

more http://www.mortgagenewsdaily.com/11242014_mbs_investors.asp