The Price Effects of Fannie Mae's Liquidity Provision Activities within the Secondary Market for Mortgage Backed Securities

In this paper, I find a charter which allows Government Sponsored Enterprises (Fannie Mae) that guarantee mortgage backed securities (MBS) to act as liquidity providers within secondary mortgage markets is beneficial for MBS prices and dealers' transaction costs. I also demonstrate that the price effects of a charter that allows liquidity provision activities, but confers a financing disadvantage on an MBS guarantor (Fannie Mae's charter) are comparable to the price effects of a charter that confers a financing advantage on an MBS guarantor, but restricts liquidity provision activities (Ginnie Mae's charter). An important implication of my findings is that a systematic decrease in dealers' inventory balances can be indicative of either an increase in confidence in a liquidity provider's ability to satisfy demand or supply imbalances, or an increase in the systematic risk of mortgage backed securities