With the Securities & Exchange Commission ruling that Fannie Mae must restate its earnings for the past four years, Credit Suisse First Boston reports that the GSE may be compelled to cease growing its portfolio, as well as sell MBS to address this capital gap, possibly that the MBS market might have to digest an additional $104 billion in MBS in the first half of 2005.

Fannie's 2% portfolio growth rate through October on a $913 billion portfolio is probably going to be the "first casualty." This leads to an annualized $18 billion or $9 billion in six months of demand exiting the market.

Aside from this, the GSE might need to lessen its MBS holdings by $41 billion to $95 billion based on the estimated current 27 times leverage ratio. This could be reached mainly through portfolio paydowns with a portfolio run-off rate of 27% year-to-date. A maximum of $5 billion in asset sales is needed if the liquidation rate averages 20% CPR (or $90 billion in paydowns) in the first half of next year. In other words, CSFB said that the slower prepays would need to be offset by larger asset sales and vice versa.

Even with the absence of large asset sales by Fannie Mae, a lessening in its sponsorship could leave the rest of the market to digest an additional $50 to 104 billion in mortgage backeds over a period of six months. This translates to a monthly overhang of $8 to $17 billion, said analysts. The hybrid sector might face the brunt of the additional supply with the growth in ARM's share of Agency purchases in 2004.

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