Month-End Index Extensions, And How They Affect The MBS Market

Portfolio managers compare their returns against those of a benchmark. Fixed income managers who hold mortgage-backs in their portfolio measure their specific MBS returns against those of the Barclay's MBS index (and a few others).

The index has a value which is respresentative of a compostion along Fixed Rate Mortgage-Backed Securites (MBS), minimum principle balance of $50 million, with a weighting consistent against the securitzed production prevalent in the market ( current coupon).

This index serves as a benchmark of MBS used to measure returns versus other cross sector markets such as Agencies, Corporates, ABS, and CMBS-all compared in "excess" returns versus Treasuries which are perceived as "riskless" and trade at a lower return rate, generally.

Part of the performance evaluations require a measure of the duration of their portfolio against the duration of the index. Duration is the sensitivity of a bond's price to shifts in the yield curve.

At the end of the month, portfolio managers must rebalance their portfolio to match it's duration to the duration of the index. If the duration of the index extends…then portfolio managers must add duration to their portfolio. This can be accomplished by purchasing "rate sheet influential" MBS coupons, which are more sensitive to interest rate changes and have a longer expected life (because of less prepayment risk).

When the index extends,  or duration is longer, portfolio managers must buy longer duration MBS coupons to rebalance their portfolio's sensitivity to interest rate risk. This resulted in higher prices and tighter yield spreads.

Plain and Simple: "Rate sheet influential" MBS coupons got a little extra demand side support from portfolio managers because of the index extension

 

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