By Isobel Kennedy

NEW YORK (MNI) - The New York Federal Reserve Bank said Thursday that it purchased a net $12 billion agency mortgage-backed securities in the week ended January 27 and it continues to pare back its weekly purchases as it nears its March 31 expiration date.

The Fed was very inactive in the "to-be-announced" or TBA dollar roll market and sources say that as the Fed nears its goal it is must take delivery of securities and is no longer rolling ahead past its deadline.

Today marks the fifty-six week since the Fed began its MBS buying program. To date it has purchased $1.161 trillion out of its goal of $1.25 trillion.

But since December, the New York Fed has pared back weekly purchases from around $16 billion a week to $12 billion a week in order to reach its goal and wean the market off the Fed program in a steady, consistent pace.

As expected, the Federal Reserve Open Market Committee reiterated Wednesday that its goal was to buy $1.25 trillion MBS by the end of March.

While the Street fully expects the Fed to stick to its deadline it also believes the Fed stands ready to aid the MBS market or the housing market should interest rates spark sharply higher after the Fed exits the market.

Conventional wisdom believes MBS spreads will widen anywhere from 25 to 35 basis points once the Fed steps aside from its daily buying. However, sources are acutely aware that spreads could widen even more than that.

As with all best laid plans, things may not pan out as planned and two scenarios could ensue.

One, the buyers and short coverers that are believed to be waiting in the wings could step in when spreads widen but the market could keep on falling giving these buyers an instant loss.

On the other hand, if demand is so great at wider spreads, the market may never get as cheap as expected, disappointing many investors.

Only time will tell but most believe the Fed's exit has been very well advertised and unless there is a complete collapse in the market in the aftermath, it will be healthy to get back to market engineered levels as opposed to a market that is essentially being artificially propped up.

There are three other MBS factors that the bond market is following closely.

One is whether the Fed will continue to operate in the "to-be-announced" or TBA dollar roll markets after it has stopped buying. Market sources feel this would help the market since it is currently dealing with many fails because the Fed has taken such massive amounts of supply out of the market.

Another item of interest is what the Fed will do with the monthly proceeds it receives from principal and interest as a certain portion of its huge holdings will receive prepayments each month.

The Fed could reinvest those proceeds -- which could be $8 billion or more each month -- or it could just allow those holdings to roll off each month thereby reducing its overall holdings.

Finally, the MBS market wonders whether this market will be subject to the 15 bps fee that President Barack Obama has proposed as a way to repay the government for costs incurred by TARP, the Toxic Asset Recovery Program.

Strategists at Credit Suisse think MBS repos and dollar rolls will be exempt from Obama's Financial Crisis Responsibility Fee "as the alternative would pressure mortgage credit availability and that would appear to go against the grain of government policy."

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