mcgraw-hill/irwin ©2008 the mcgraw-hill companies, all rights reserved chapter19chapter19...
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McGraw-Hill/Irwin©2008 The McGraw-Hill Companies, All Rights Reserved
CHAPTER
19
CHAPTER
19
The Secondary Mortgage Market:
Pass-Through Securities
19-2
Copyright ©2008 by The McGraw-Hill Companies, Inc. All Rights Reserved
Secondary Mortgage MarketSecondary Mortgage Market
• Allows originators to replenish funds
• Facilitates geographic flow of funds
• Provides an investment option for savers
• Early buyers of mortgages Mortgage companies and thrifts
• FHA insurance and VA guarantees Minimum underwriting standards
19-3
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Secondary Mortgage MarketSecondary Mortgage Market
• 1954 Charter Act: FNMA Enhance secondary market operations
• FHA and VA mortgages
Manage prior direct loans Manage special assistance programs FNMA transforms into a private organization FNMA issues securities
19-4
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Secondary Mortgage MarketSecondary Mortgage Market
• HUD Act 1968: GNMA GNMA manages and liquidates FNMA loan
portfolio Special assistance functions Guarantee timely payment of principal and
interest for FHA-VA mortgage pools Eliminated any default delay in payments to
investors
19-5
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Secondary Mortgage MarketSecondary Mortgage Market
• Emergency Home Finance Act 1970: FHLMC Provide a secondary market for conventional
loans Allowed FNMA to purchase conventional
mortgages FHLMC allowed to purchase FHA and VA
mortgages Fannie Mae and Freddie Mac compete for all
mortgage loans
19-6
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Secondary Mortgage MarketSecondary Mortgage Market
• Operation Direct Sale Programs
• Mandatory Commitment
• Optional Delivery
• Mortgage-Related Security Pools Securitization
19-7
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Secondary Mortgage MarketSecondary Mortgage Market
• Mortgage-Backed Bonds Issuer retains ownership of mortgages Mortgages held in trust Fixed coupon rate Specific maturity Over collateralization Mark to market
19-8
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Secondary Mortgage MarketSecondary Mortgage Market
• Mortgage-Backed Bonds Investment Rating
• Mortgage Quality
• Geographic Diversification
• Interest Rates on Mortgages
• Prepayment Probability
• Over collateralization
• Appraised value and debt coverage ratio if commercial mortgages
19-9
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Secondary Mortgage MarketSecondary Mortgage Market
• Mortgage-Backed Bonds Example 19-1: Mortgage Bond Valuation 20-year to maturity Par value of $10,000 10.5% annual coupon. At issue, bond market investors require an
11% interest rate. What is the initial price of the bond?
19-10
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Secondary Mortgage MarketSecondary Mortgage Market
• Mortgage-Backed Bonds Example 19-1:
= $10,000
= 20
= .105 x $10,000 = $1,050
= 11
= $9,601.83
n
i
CPT
FV
PMT
PV
19-11
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Secondary Mortgage MarketSecondary Mortgage Market
• Mortgage-Backed Bonds In Example 19-1, what would be the price of
the bond 5 years later if investors required a 12% return?
N is 15 years I is 12%
19-12
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Secondary Mortgage MarketSecondary Mortgage Market
• Mortgage-Backed Bonds Example 19-1:
= $10,000
= 15
= $1,050
= 12
= $8,978.37
n
i
CPT
FV
PMT
PV
19-13
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Secondary Mortgage MarketSecondary Mortgage Market
• Mortgage-Backed Bonds Zero-Coupon Bond
• The only cash flow to an investor is a lump sum at maturity
• No interim coupon payments
• Also called “deep discount” bonds
• Analysis is just computing the present value of a lump sum
19-14
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Secondary Mortgage MarketSecondary Mortgage Market
• Mortgage Pass-Through Securities Ownership interest in a pool of mortgages Trustee is owner of the mortgages in the pool Principal & interest are passed through Servicing & guarantee fees
19-15
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Mortgage Pass-Through Securities: Mortgage Pass-Through Securities: Issuance and Funds FlowIssuance and Funds Flow
19-16
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Secondary Mortgage MarketSecondary Mortgage Market
• Mortgage Pass-Through Securities Issuers & guarantors Default insurance Payment patterns and security Coupon rate and interest rates Seasoned mortgages
19-17
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Secondary Mortgage MarketSecondary Mortgage Market
• Mortgage Pass-Through Securities Number of mortgages Geographic distribution Borrower characteristics Loan prepayment Nuisance calls
19-18
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Selected Characteristics of Pass-Selected Characteristics of Pass-Through SecuritiesThrough Securities
19-19
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Secondary Mortgage MarketSecondary Mortgage Market
• General Pricing of MPTs Interest Rate Risk Default Risk Risk of Delayed Payment of Principal and
Interest Prepayment Risk
19-20
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Secondary Mortgage MarketSecondary Mortgage Market
• General Pricing of MPTs Coupon Rate Yield to maturity Servicing Fee Weighted Average Coupon & Maturity Stated Maturity Date Payment Delays Pool Factors
19-21
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Secondary Mortgage MarketSecondary Mortgage Market
• Example 19-2: A mortgage pool consists of the following:
• $500,000 of 30-year 7% Fixed Rate Mortgages
• $200,000 of 29-year 6.5% Fixed Rate Mortgages
• $300,000 of 28-year 6% Fixed Rate Mortgages
What is the weighted average coupon and average maturity of the mortgage pool? If there is a servicing fee of .5%, what is the quoted maturity and quoted coupon rate?
19-22
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Secondary Mortgage MarketSecondary Mortgage Market
• Example 19-2:
• Quoted Maturity = 30 Years• Quoted Coupon Rate = 6% - .5% = 5.5%
Amount Maturity
Interest Rate
Weight W x M W x I
$500,000 30 7% .5 15 3.5
$200,000 29 6.5% .2 5.8 1.3
$300,000 28 6% .3 8.4 1.8
$1,000,000 WAM = 29.2
WAC = 6.6
19-23
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19-24
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Secondary Mortgage MarketSecondary Mortgage Market
• Prepayment Assumptions Average Maturity Assumption Constant Prepayment Rate Assumption FHA Prepayment Experience PSA Prepayment Model
19-25
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19-26
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Mortgage Pass-Through Securities Mortgage Pass-Through Securities With Differing ROR and PrepaymentWith Differing ROR and Prepayment