Many residential mortgages in the United States are aggregated into securitized pools known as mortgage-backed securities (MBS). This market is known as the MBS market. It is the second-largest debt market in the United States behind U.S. Treasuries. Most of the MBS trading occurs in a forward market, known as the TBA market. TBA stands for “to be announced”.
Like a forward contract, in a TBA trade, two parties agree on a price delivering a given amount of agency MBS at a specific future date. Participants agree on six general parameters:
- issuer
- maturity
- coupon
- price
- par amount
- settlement date
The detailed conventions developed around TBA trading are encoded in the “good delivery guidelines” published by Securities Industry and Financial Markets Association (SIFMA).
How TBA futures work
30-Year Uniform Mortgage-Backed Securities (UMBS) TBA futures provide the mortgage-backed securities market with a liquid risk management tool to hedge their risk in a more capital-efficient way. The 30-Year UMBS TBA futures contracts are fulfilled by physical delivery of TBAs cleared by the Fixed Income Clearing Corporation's (FICC’s) Mortgage-Backed Securities Division, a subsidiary of The Depository Trust and Clearing Corporation.
The contract offers mortgage lenders, issuers, servicers, and other participants an exchange-traded, centrally cleared tool for price discovery and risk transfer. The futures contract represents 30-year residential mortgages pooled into UMBS products backed by Fannie Mae and Freddie Mac.
For each delivery month, futures are listed for delivery of a small number of specified active mortgage coupon rates. The three nearest calendar months will be listed at any given time.
U.S. residential 30-year mortgages exhibit a high degree of correlation to U.S. Treasury 10-Year yields.
To align with SIFMA TBA calendar conventions, TBA futures cease trading and are settled via a position in a TBA forward two business days prior to that month’s declared TBA notification date. Note that the notification date varies by month and is determined by SIFMA. Market participants can consult sifma.org for a detailed calendar.
Example
Assume it is December. The SIFMA Notification Day is December 9. Therefore, the last trading date is three days prior, or December 6. Delivery takes place the next business day - in our example, December 7. The settlement date is two business days following notification day. This would be December 13 in our example, due to the weekend.
Like U.S. Treasury futures, TBA futures have a $100,000 face value.
Like the standard U.S. Treasury five-year futures contract, the minimum price increment is ¼ of 1/32, which equates to $7.8125 per contract
Summary
TBA futures are a welcome addition to the CME Group Interest Rate complex. The contract design adheres to well-established TBA market standards. Margin offsets and clearing are available through CME Clearing versus adjacent Interest Rate markets. Block trades in the dollar rolls are eligible for 1/16th ticks.
TBA futures from CME Group create an easy way to access and trade the second biggest fixed income market after U.S. Treasuries. Full contract details are available on cmegroup.com/TBA.
