Q&A Hero

Q: A principal-only (PO) mortgage pass-through strip security is attractive to investors that wish to increase the interest rate sensitivity of their portfolio.

Q: A principal only (PO) mortgage-backed strip is attractive to investors who wish to speculate about decreasing interest rates.

Q: An interest-only (IO) mortgage-backed strip is a rare example of a negative duration asset.

Q: At market rates substantially below the mortgage coupon rate of an interest-only (IO) mortgage-backed strip, the prepayment effect will dominate the discount effect resulting in a decrease in the price of the IO strip.

Q: The value of an interest-only (IO) mortgage-backed strip is not sensitive to changes in current market interest rates.

Q: An interest-only (IO) mortgage pass-through strip has a claim on the present value of interest payments on the mortgages in a GNMA pool.

Q: A mortgage pass-through strip security is a special type of collateralized mortgage obligation (CMO).

Q: Mortgage-backed bonds differ from CMOs and pass-through securities in that there is no direct link between the cash flows on the mortgages and the interest and principal payments on the bonds.

Q: Most mortgage-backed bond issues conducted by depository institutions are under-collateralized.

Q: Mortgage-backed bonds are a form of on-balance-sheet securitization.

Q: The creation and sale of CMOs is based, at least in part, on the ability to segment the market for pass-through security products.

Q: CMOs are typically created from existing GNMA pass-through securities that are held in trust.

Q: Early prepayments on mortgages backing a CMO are normally allocated to the earliest existing tranche maturity.

Q: Mortgage pools that are assumed to prepay at a rate of speed that is more rapid than the PSA model would indicate, are said to prepay at less than 100 percent PSA behavior because the mortgage life and balance will exist for a longer time.

Q: The weighted-average life of a loan is always greater than the duration of the loan.

Q: Prepayment models are attempts by professional mortgage portfolio managers to estimate the rate of prepayment on given mortgage pools.

Q: A good news effect of increased mortgage prepayments on a mortgage pool caused by decreasing market interest rates includes the receipt of fewer scheduled interest payments.

Q: A bad news effect of increased mortgage prepayments on a mortgage pool caused by decreasing market interest rates includes a reduction in the discount rate on the mortgage cash flow.

Q: The call option held by the residential mortgage holder is in the money when market interest rates are less than the interest rate on an existing mortgage.

Q: It is advantageous for the residential mortgage holder to refinance because market interest rates on new mortgages are less than interest rates on existing mortgages.

Q: One cause of residential mortgage prepayment risk is the sale of the mortgaged property.

Q: All else equal, once a mortgage pool has aged, prior prepayments of mortgages in the pool have no bearing on the current value of the pool or the future prepayment rates of mortgages left in the pool.

Q: One advantage of asset securitization to a bank is the ability to originate new assets before the original assets have matured.

Q: The ability to refinance a mortgage with no prepayment penalty gives the borrower a long-term put option on interest rates.

Q: Prepayment risk means that realized cash flows on pass-through securities may be more than expected cash flows.

Q: Full amortization of a thirty-year fixed rate mortgage means that monthly payments are equal and include both principal and interest.

Q: Current statistics show that the servicing fee depository institutions can earn by securitizing through GNMA approximates 44 basis points.

Q: Investors in GNMA pass-through securities are exposed to the risk that the originating bank may fail, and the risk that the trustee may mismanage monthly interest and principal payments collected.

Q: GNMA pass-through bondholders can be protected against default risk by FHA/VA housing insurance.

Q: GNMA pass-throughs can assist an FI in resolving duration mismatch and illiquidity risk problems.

Q: All tranches in a collateralized mortgage obligation (CMO) have the same prepayment risk exposure.

Q: The securities that form a GNMA pass-through are U.S. Treasury bonds, bills, and notes.

Q: Unlike GNMA, FNMA will securitize conventional mortgages issued by depository institutions.

Q: GNMA is more active in the market for mortgage pass-through securities than either FNMA or FHLMC.

Q: Individual mortgage loans in a pool sponsored by FNMA or FHLMC must be non-assumable if the property is sold.

Q: FNMA securitizes conventional mortgage loans as well as FHA/VA insured loans.

Q: On September 7, 2008, FNMA and FHLMC were placed under conservatorship and both are controlled by a federal government agency.

Q: The three government agencies that sponsor the creation of mortgage-backed, pass through securities are: GNMA, FNMA, and FDIC.

Q: FNMA does not hold the mortgages it purchases on its balance sheet, thereby transferring credit and default risk to investors purchasing its securities.

Q: Historically, FNMA has had a secured line of credit with the U.S. Treasury.

Q: FNMA supports only those pools of mortgages that comprise mortgage loans whose default or credit risk is insured by one of three government agencies.

Q: GNMA will sponsor any pool of loans regardless of the size of each individual loan in the pool.

Q: GNMA is a privately-owned entity.

Q: GNMA helps create pass-through asset-backed securities by providing timing insurance.

Q: Despite the complexity of measuring the risk of asset-backed securities, credit rating agencies continued to use their own measures to quantify risks involved.

Q: Investors in a Structured Investment Vehicle (SIV) have no direct right to the cash flows on the underlying portfolio of the SIV.

Q: The life of a Structured Investment Vehicle (SIV) is not tied to any particular asset class that it is responsible for securitizing.

Q: When a Special Purpose Vehicle (SPV) creates asset-backed securities, the SPV retains ownership of the original assets.

Q: Securitization of assets increases the FI's capital requirements.

Q: The availability of a liquid secondary market for asset-backed securities provided an incentive for FIs to follow an originate-to-distribute strategy of loan origination.

Q: Depository institutions have followed and originate-to-distribute model of loan origination only since the Financial Services Modernization Act of 1999.

Q: The following information is for a collateralized mortgage obligation (CMO). Tranche A has a face value of $50 million and pays 6 percent annually. Tranche B has a face value of $50 million and pays 8 percent annually. All mortgages have maturities of 30 years.What are the principals outstanding on Tranches A and B, respectively, after the CMO distributes the $10 million of cash flows? A. $50 million; $47 million.B. $47 million; $50 million.C. $48 million; $48 million.D. $50 million; $48 million.E. $50 million; $50 million.

Q: The following information is for a collateralized mortgage obligation (CMO). Tranche A has a face value of $50 million and pays 6 percent annually. Tranche B has a face value of $50 million and pays 8 percent annually. All mortgages have maturities of 30 years.If at the end of the first year, the trustee of the CMO receives total cash flows of $10 million, how are they distributed to Tranche A and B, respectively? A. $5,558,628; $4,441,372.B. $4,441,372; $5,558,868.C. $4,000,000; $6,000,000.D. $6,000,000; $4,000,000.E. $5,558,628; $4,000,000.

Q: The following information is for a collateralized mortgage obligation (CMO). Tranche A has a face value of $50 million and pays 6 percent annually. Tranche B has a face value of $50 million and pays 8 percent annually. All mortgages have maturities of 30 years.What are the annual payments promised to Tranche A and Tranche B, respectively, assuming no prepayments and non-amortization? A. $3,632,446; $4,000,000.B. $4,000,000; $3,000,000.C. $3,000,000; $4,000,000.D. $3,632,446; $4,441,372.E. $4,441,372; $3,632,446.

Q: Overseas bank is pooling 50 similar and fully amortized mortgages into a pass-through security. The face value of each mortgage is $100,000 paying 180 monthly interest and principal payments at a fixed rate of 9 percent per annum.What is the market (present) value of the mortgage pass-through to the investor if the interest rates on this risk category of securities decrease to 7 percent? (Note that investors receive payments net of the 50 basis points servicing fees.) A. $4,892,200.B. $5,000,000.C. $5,152,189.D. $5,477,910.E. $5,675,005.

Q: Overseas bank is pooling 50 similar and fully amortized mortgages into a pass-through security. The face value of each mortgage is $100,000 paying 180 monthly interest and principal payments at a fixed rate of 9 percent per annum.What is the monthly payment received by investors of the mortgage pass-through if the FI deducts a 50 basis points servicing fee? A. $49,237.B. $50,713.C. $50,459.D. $51,200.E. $52,100.

Q: Overseas bank is pooling 50 similar and fully amortized mortgages into a pass-through security. The face value of each mortgage is $100,000 paying 180 monthly interest and principal payments at a fixed rate of 9 percent per annum.If the entire mortgage pool is repaid at the end of the second month, what is the weighted average life of the mortgage pool? A. 2.10 months.B. 2 months.C. 1.997 months.D. 1.95 months.E. 1.90 months.

Q: Overseas bank is pooling 50 similar and fully amortized mortgages into a pass-through security. The face value of each mortgage is $100,000 paying 180 monthly interest and principal payments at a fixed rate of 9 percent per annum.If the entire mortgage pool is repaid after the second month, what is the second month's interest and principal payments? A. $37,441 interest and $13,275 principal.B. $13,275 principal and $37,441 interest.C. $13,312 interest and $4,986,786 principal.D. $4,986,786 interest and $37401 interest.E. $37,401 interest and $4,986,786 principal.

Q: Overseas bank is pooling 50 similar and fully amortized mortgages into a pass-through security. The face value of each mortgage is $100,000 paying 180 monthly interest and principal payments at a fixed rate of 9 percent per annum.For the first monthly payment, what are the interest and principal portions of the payment? A. $37,500 principal and $13,213 principal.B. $37,500 interest and $13,213 principal.C. $37,500 principal and $7,809 interest.D. $37,500 interest and $7,809 principal.E. $37,500 interest and $17,756 principal.

Q: Overseas bank is pooling 50 similar and fully amortized mortgages into a pass-through security. The face value of each mortgage is $100,000 paying 180 monthly interest and principal payments at a fixed rate of 9 percent per annum.What is the monthly payment on the mortgage pass-through? A. $37,500.B. $45,231.C. $45,309.D. $50,713.E. $55,256.

Q: The underlying GNMA 15-year mortgage pool has a principal amount of $50 million and an annual yield of 6 percent (paid monthly). Assume that there are no prepayments.What is the first monthly payment on the Principal Only (PO) strip? A. $3 million.B. $421,928.C. $250,000.D. $299,775.E. $171,928.

Q: The underlying GNMA 15-year mortgage pool has a principal amount of $50 million and an annual yield of 6 percent (paid monthly). Assume that there are no prepayments.What is the first monthly payment on the Interest Only (IO) strip? A. $3,000,000.B. $421,928.C. $250,000.D. $299,775.E. $171,928.

Q: The following information is for a collateralized mortgage obligation (CMO). Tranche A has a face value of $110 million and pays 5 percent annually. Tranche B has a face value of $90 million and pays 7 percent annually.What is the principal outstanding on Tranche A and Tranche B after the end of year payment in the previous question? A. $110 million on Tranche A and $90 million on Tranche BB. $95 million on Tranche A and $90 million on Tranche B.C. $106.8 million on Tranche A and $90 million on Tranche B.D. $110 million on Tranche A and $86.8 million on Tranche B.E. $108.4 million on Tranche A and $88.4 million on Tranche B.

Q: The following information is for a collateralized mortgage obligation (CMO). Tranche A has a face value of $110 million and pays 5 percent annually. Tranche B has a face value of $90 million and pays 7 percent annually.If at the end of the first year, the CMO trustee receives total cash flows of $15 million, how are they distributed? A. $7.5 million to Tranche A and $7.5 million to Tranche B.B. $15 million to Tranche A and nothing to Tranche B.C. $5.5 million to Tranche A and $9.5 million to Tranche B.D. $8.7 million to Tranche A and $6.3 million to Tranche B.E. $7.1 million to Tranche A and $7.9 million to Tranche B.

Q: The following information is for a collateralized mortgage obligation (CMO). Tranche A has a face value of $110 million and pays 5 percent annually. Tranche B has a face value of $90 million and pays 7 percent annually.What are the annual coupon payments promised to each tranche? (Assume no prepayments and non-amortization of principal.) A. $5.5 million on Tranche A and $6.3 million on Tranche B.B. $5.5 million on Tranche B and $6.3 million on Tranche A.C. A total of $12 million on both Tranche A and B.D. $4.5 million on Tranche A and $7.7 million on Tranche B.E. $4.5 million on Tranche B and $7.7 million on Tranche A.

Q: One hundred identical mortgages are pooled together into a pass-through security. Each mortgage has a $150,000 principal, a fixed annual interest rate of 8 percent (paid monthly), and is fully amortized over a term of 30 years.What is the present value of the mortgage pass-through if, immediately after origination, interest rates increase to 8.25 percent per annum? A. $15,000,000.B. $14,650,591.C. $14,000,000.D. $15,115,493.E. $15,267,549.

Q: One hundred identical mortgages are pooled together into a pass-through security. Each mortgage has a $150,000 principal, a fixed annual interest rate of 8 percent (paid monthly), and is fully amortized over a term of 30 years.What is the monthly payment on the mortgage pass-through if a 44 basis point servicing fee is deducted monthly? A. $105,499.B. $114,700.C. $11,340.D. $1,055.E. $1,277,494.

Q: One hundred identical mortgages are pooled together into a pass-through security. Each mortgage has a $150,000 principal, a fixed annual interest rate of 8 percent (paid monthly), and is fully amortized over a term of 30 years.What is the present value of the mortgage pass-through if the entire pool is repaid after two months and there is no change in interest rates? A. $14,989,935.B. $15,089,868.C. $15,000,000.D. $15,110,065.E. $14,889,935.

Q: One hundred identical mortgages are pooled together into a pass-through security. Each mortgage has a $150,000 principal, a fixed annual interest rate of 8 percent (paid monthly), and is fully amortized over a term of 30 years.What is the weighted average life of the above mortgage pool? A. 30 years.B. 2 months.C. 1.998 months.D. 1 month.E. 1.5 months.

Q: One hundred identical mortgages are pooled together into a pass-through security. Each mortgage has a $150,000 principal, a fixed annual interest rate of 8 percent (paid monthly), and is fully amortized over a term of 30 years.If the entire mortgage pool is repaid after the second month, what is the second month's (liquidating) principal and interest payments? A. $99,933 interest and $14,989,935 principal.B. $100,000 interest and $10,065 principal.C. $100,000 interest and $15,000,000 principal.D. $99,933 principal and $14,989,935 interest.E. $12,000 interest and $138,000 principal.

Q: One hundred identical mortgages are pooled together into a pass-through security. Each mortgage has a $150,000 principal, a fixed annual interest rate of 8 percent (paid monthly), and is fully amortized over a term of 30 years.For the first monthly payment, what portion is principal and what portion is interest? A. $100,000 principal and $10,065 interest.B. $12,000 interest and no principal.C. $100,000 interest and no principal.D. $100,000 interest and $10,065 principal.E. $10,000 interest and $2,000 principal.

Q: One hundred identical mortgages are pooled together into a pass-through security. Each mortgage has a $150,000 principal, a fixed annual interest rate of 8 percent (paid monthly), and is fully amortized over a term of 30 years.What is the monthly payment on the mortgage pass-through? A. $100,000.B. $110,065.C. $12,000.D. $12,000,000.E. $80,000.

Q: An FI funds a $5 million residential mortgage in 2012 by allocating capital and by issuing demand deposits. The mortgage represents a loan-to-value of 70 percent. The demand deposits have a reserve requirement of 10 percent and a deposit insurance premium of 23 basis points.What would have been the capital requirements if the FI had securitized the mortgage? A. $0.B. $400,000.C. $200,000.D. $500,000.E. $5,000,000.

Q: An FI funds a $5 million residential mortgage in 2012 by allocating capital and by issuing demand deposits. The mortgage represents a loan-to-value of 70 percent. The demand deposits have a reserve requirement of 10 percent and a deposit insurance premium of 23 basis points.What is the deposit insurance premium on the demand deposits issued to fund the mortgage? A. $11,756.B. $12,778.C. $11,500.D. $1,150.E. $9,200.

Q: An FI funds a $5 million residential mortgage in 2012 by allocating capital and by issuing demand deposits. The mortgage represents a loan-to-value of 70 percent. The demand deposits have a reserve requirement of 10 percent and a deposit insurance premium of 23 basis points.What amount of demand deposits are needed to fund the mortgage? A. $5,500,000.B. $400,000.C. $5,555,555.D. $500,000.E. $5,000,000.

Q: An FI funds a $5 million residential mortgage in 2012 by allocating capital and by issuing demand deposits. The mortgage represents a loan-to-value of 70 percent. The demand deposits have a reserve requirement of 10 percent and a deposit insurance premium of 23 basis points.What is the minimum capital requirement on the mortgage in order for the institution to be adequately capitalized? A. $0.B. $400,000.C. $200,000.D. $500,000.E. $5,000,000.

Q: Why do garbage class bonds often have a negative duration? A. The value of the returns in this bond class increases when interest rates increase. B. It gives the rights to collateralization. C. Bond values fall with interest rate increases. D. It gives rights to reinvestment income on the cash flows in the CMO trust. E. Significant risk premium required by the uninsured depositors.

Q: Which of the following is NOT true of an R class CMO issue? A. It is treated as "garbage class." B. It is a high-risk investment class. C. It gives the investor the rights to the over-collateralization and reinvestment income on the cash flows in the CMO trust. D. Returns increase when interest rates increase. E. It has a positive duration.

Q: Identify the residual class of a CMO that gives the owner the right to any remaining collateral in the trust after all other bond classes have been retired plus any reinvestment income earned by the trust. A. Class A bonds. B. Class B bonds. C. Class C bonds. D. Class Z bonds. E. Class R bonds.

Q: This is an accrual class of a CMO that makes a payment to bondholders only when preceding CMO classes have been retired. A. Class A bonds. B. Class B bonds. C. Class C bonds. D. Class Z bonds. E. None of the above.