Asset Pricing with Cohort-Based Trading in MBS Markets

Agency MBSs with diverse characteristics are traded in parallel through individualized specified pool (SP) contracts and standardized to-be-announced (TBA) contracts with delivery flexibility. This parallel trading environment generates distinctive effects on MBS pricing and trading: (1) Although cheapest-to-deliver (CTD) issues are present in TBA trading and absent from SP trading by design, MBS heterogeneity associated with CTD discounts affects SP yields positively, with the effect stronger for lower-value SPs; (2) high selling pressure amplifies the effects of MBS heterogeneity on SP yields; (3) greater MBS heterogeneity dampens SP and TBA trading activities but increases their ratio.

Keywords: Cohort, Heterogeneity, Liquidity, MBS, Prepayment, TBA

JEL Classification: G12, G18, G21, E58

Suggested Citation: Suggested Citation

Fusari, Nicola and Li, Wei and Liu, Haoyang and Song, Zhaogang, Asset Pricing with Cohort-Based Trading in MBS Markets (June 27, 2020). Journal of Finance, Forthcoming, Available at SSRN: https://ssrn.com/abstract=3637015 or http://dx.doi.org/10.2139/ssrn.3637015