The two primary types of Mortgage-Backed Securities (MBS) are Agency MBS and Non-Agency MBS.
Understanding Mortgage-Backed Securities (MBS)
Mortgage-Backed Securities (MBS) are investment vehicles that represent claims to the cash flows from pools of mortgage loans. Essentially, they allow investors to buy interests in the principal and interest payments made by homeowners. These securities are a critical component of the fixed-income market, providing liquidity to the housing market and offering investors opportunities for returns.
For a deeper dive into MBS, you can refer to Investopedia's explanation of Mortgage-Backed Securities.
The Two Main Types of MBS
MBS are broadly categorized based on who issues or guarantees them, which significantly impacts their risk profile and market characteristics.
Here’s a breakdown of the two major types:
| MBS Type/Acronyms | Description |
|---|---|
| Agency MBS | Issued or guaranteed by government-sponsored enterprises (GSEs) like Fannie Mae and Freddie Mac. |
| Non-Agency MBS | Issued by private entities and are not backed by government guarantees. |
Agency MBS
Agency MBS are considered the safer of the two types due to their backing. These securities are issued or guaranteed by government-sponsored enterprises (GSEs) such as:
- Fannie Mae (Federal National Mortgage Association)
- Freddie Mac (Federal Home Loan Mortgage Corporation)
- Ginnie Mae (Government National Mortgage Association)
Because they are issued or guaranteed by these government-backed entities, Agency MBS carry an implicit or explicit government guarantee against default, making them highly liquid and attractive to a wide range of investors, including central banks and institutional investors.
Non-Agency MBS
In contrast, Non-Agency MBS are issued by private financial institutions, including investment banks, commercial banks, and other private lenders. Unlike Agency MBS, they do not carry any direct or implicit government guarantee. This means that investors in Non-Agency MBS bear the full credit risk of the underlying mortgages.
Key characteristics of Non-Agency MBS include:
- Higher Yields: Due to the increased risk, Non-Agency MBS typically offer higher yields compared to Agency MBS to compensate investors.
- Diverse Underlying Mortgages: The underlying mortgage pools can be more diverse, including subprime mortgages, jumbo loans, or other types of loans that do not meet the criteria for GSE backing.
- Greater Risk: The lack of a government guarantee exposes investors to greater credit risk, prepayment risk, and interest rate risk.
