What Are Some Examples of Mortgage-Backed Securities?

The following are three types of MBS:

• A Participation Certificate (PC) or Mortgage Pass-Through Security (MPTS): This allows investors to have a direct claim on the pool of mortgage loans. Most MPTS consist of fixed-rate mortgage loans, but MPTS can be bundled with adjustable-rate mortgage loans with an interest rate floor and cap that set the minimum and maximum interest rates on the loans.

• A Collateralized Mortgage Obligation (CMO): This utilizes the interest and principal payments received from multiple MBS for the creation of additional securities with varying coupons and maturities. Each CMO is a set of two or more tranches with different average life expectancies and cash flow patterns that are determined by the interest obligations in the initial offering and the issuance date.

• A Stripped Mortgage-Backed Security (SMBS): This splits MBS into principal-only (PO) strips and interest-only (IO) strips that allows investors to receive cash flow based on principal or interest payments respectively. PO strips are therefore highly dependent upon interest rates and prepayment speed. The higher the prepayment, the faster the principal is repaid, and therefore the higher the yield is for PO strips. The value of IO strips depends on the maturity date of a loan. A lower interest rate and greater level of prepayment will result in a lower value of IO.