Mortgages and MBS

1
Mortgages and MBS

• Originators, Insurers, Servicers
• PTI, LTV
• Conforming and Non-Conforming Loans
• Mortgages are held as investments or are
  securitized
• FRM
• ARM
• Contract is reset periodically in accordance with
  some benchmark index.
• Treasury based indexes
• COFI, monthly weighted average interest cost for
  liabilities of thrifts.
• 11th district (Calif, Nevada, Arizona), FHLBB
  cost of funds

2
Mortgages

• Originator, Origination Fee (1)
• Lender gathers information
• Down payment versus Mortgage Insurance
• Loans are assets in the lenders books

3
Prepayments

• The lenders position
• Long position in the loan (receives interest and
  principal payments)
• Sold an option to the borrower (right to prepay)
• Duration mismatch (loan portfolio vs short-term
  deposits)
• Reasons for prepayments
• Refinancing incentive
• Age of the mortgage
• Personal reasons
• Prepayment Measures
• 100 PSA Method
• Example
• BARRA Model

4
Pass-Through Securities (MBS)
Mortgage 1
Mortgage 2
Mortgage n
Pool
SPV
MBS
CMOs
5
Need for a secondary market

• Excess demand for credit was met by sale of loan
  portfolios.
• Excess supply of credit was met by thrifts buying
  loan portfolios from other regions.
• When overall rate of growth in demand could not
  be met by the supply, institutions were set up to
  provide a secondary market.
• 1934 Federal Housing Association set up to
  insure homes
• 1938 Fannie Mae (Govt owned) To provide
  secondary market for FHA and VA loans.
• 1954 Fannie Mae, partly owned by private
  shareholders
• 1968 Split into Gnnie Mae and Fannie Mae.
  Fannie Mae is a private firm. GNMA is govt
  owned.
• 1970 Fredie Mac created. It buys from SL and
  Banks and sells Mortgage pass-throughs.

6
MBS

• Agency pass-throughs
• Government National Mortgage Association (Ginnie
  Mae)
• Federal Home Loan Mortgage Corporation (Freddie
  Mac)
• Federal National Mortgage Association (Fannie
  Mae)
• Fully modified pass-throughs Timely payment of
  interest and principal
• Modified pass-through Timely payment of interest
  but principal before a date

7
GNMA Pass-Through

• US government guarantee
• Fully modified pass-throughs
• Must be insured by MHA, VA or Farmers Home
  Administration.
• Backed by single family mortgages predominantly
• ARMs are in the GNMA II program
• Pool Factor (Example 9-2)
• Accrued Interest (Example 9-3)

8
Freddie Mac Participation Certificate (PC)

• Not a US government guarantee
• Cash Program
• Mortgages backing the PCs are bought from
  originators and sold in auctions.
• Guarantor/Swap program
• Originators can swap pooled mortgages for PCs
  from those pools
• Gold PCs

9
Plain Vanilla CMO

• Structure
• Backed by a pool of Pass-Throughs
• Several classess of bondholders with varying
  stated maturities
• The Principal payments from underlying collateral
  used to payoff bondholders based on priority
• Consists of 4 Classes (Tranches) A, B, C, and Z.
• A Shortest maturity (receives interest
  payments)
• Bonds are retired sequentially
• Z Accrual bond, receives no interest payments.

10
Example

• The M.D.C. Mortgage Funding Corp, Series J CMO.
• 100 m issue priced on July 7, 1986
• Underlying collateral---Ginnie Mae pass-thru,
  weighted avg coupon 9.5 and remaining 297 months
  remaining to maturity
• Summary Information