Fixed Income: Intro to Asset Backed Securities

Question 1

Agency RMBS

Answer 1

In the United States, securities backed by residential mortgage loans and guaranteed by a federal agency or guaranteed by either of the two GSEs (Fannie Mae and Freddie Mac)

Question 2

Amortizing Loan

Answer 2

Loan with a payment schedule that calls for periodic payments of interest and repayments of principal

Question 3

Asset-backed securities

Answer 3

A type of bond issued by a legal entity called a special purpose entity (SPE) on a collection of assets that the SPE owns. Also, securities backed by receivables and loans other than mortgages.

Question 4

Average Life

Answer 4

A measure that gives investors an indication of how long they can expect to hold the MBS before it is paid off; the convention-based average time to receipt of all principal repayments.

Question 5

Collateral Manager

Answer 5

Buys and sells debt obligations for and from the CDO’s portfolio of assets (the collateral) to generate sufficient cash flows to meet the obligations to the CDO bondholders.

Question 6

Collaterized Debt Obligation

Answer 6

Generic term used to describe a security backed by a diversified pool of one or more debt obligations.

Question 7

Collateralized mortgage obligation

Answer 7

A security created through the securitization of a pool of mortgage related products (mortgage pass-through securities or pools of loans)

Question 8

Contract rate

Answer 8

The interest rate on a mortgage loan

Question 9

Contraction risk

Answer 9

The risk that when interest rates decline, the security will have a shorter maturity than was anticipated at the time of purchase because borrowers refinance at the new, lower interest rates.

Question 10

Credit tranching

Answer 10

A structure used to redistribute the credit risk associated with the collateral; a set of bond classes created to allow investors a choice in the amount of credit risk that they prefer to bear

Question 11

Early repayment option

Answer 11

Contractual provision that entitles the borrower to prepay all or part of the outstanding mortgage principal prior to the scheduled due date when the principal must be repaid

Question 12

Extension risk

Answer 12

The risk that when interest rates rise, fewer prepayments will occur because homeowners are reluctant to give up the benefits of a contractual interest rate that now looks low. As a result, the security becomes longer in maturity than anticipated at the time of purchase.

Question 13

Foreclosure

Answer 13

Allows the lender to take possession of a mortgaged property if the borrower defaults and then sell it to recover funds.

Question 14

Interest-only mortgage

Answer 14

A loan in which no scheduled principal repayment is specified for a certain number of years

Question 15

Loan-to-Value ratio

Answer 15

The ratio of a property’s purchase price to the amount of its mortgage

Question 16

Mortgage-backed securities

Answer 16

Debt obligations that represent claims to the cash flows from pools of mortgage loans, most commonly on residential property.

Question 17

Mortgage loan

Answer 17

A loan secured by the collateral of some specified real estate property that obliges the borrower to make a predetermined series of payments to the lender

Question 18

Mortgage pass through security

Answer 18

A security created when one or more holders of mortgages form a pool of mortgages and sell shares or participation certificates in the pool

Question 19

Mortgage rate

Answer 19

The interest rate on a mortgage loan

Question 20

Non-agency RMBS

Answer 20

In the United States, securities issued by private entities that are not guaranteed by a federal agency or GSE

Question 21

Non-recourse loan

Answer 21

Loan in which the lender does not have a shortfall claim against the borrower so the lender can look only to the property to recover the outstanding mortgage balance

Question 22

Note rate

Answer 22

The interest rate on a mortgage loan

Question 23

Pass-through Rate

Answer 23

The coupon rate of a mortgage pass through security

Question 24

Prepayment option

Answer 24

Contractual provision that entities led the borrower to prepay all or part of the outstanding mortgage principal prior to to the scheduled due date when the principal must be repaid

Question 25

Prepayment penalty mortgages

Answer 25

Mortgages that stipulate a monetary penalty if a borrower prepays within a certain time period after the mortgage is originated.

Question 26

Prepayment risk

Answer 26

The uncertainty that the timing of the actual cash flows will be different from the scheduled cash flows as set forth in the loan agreements due to the borrowers ability to alter payments, usually to take advantage of interest rate movements.

Question 27

Recourse loan

Answer 27

Loan in which the lender has a claim against the borrower for any shortfall between the outstanding mortgage balance and the proceed recieved from the sale of the property

Question 28

Securitization

Answer 28

A process that involves moving assets into a special legal entity, which then uses the assets as a guarantees to secure a bond issue

Question 29

Securitized assets

Answer 29

Assets that are typically used to create asset-backed bonds; for example when bank securitizes a pool of loans, the loans are said to be securitized.

Question 30

Special purpose entity

Answer 30

A non-operating entity created to carry out a specified purpose, such as leasing assets or securitizing receivables; can be a corporation, partnership, trusts, limited liability, or partnership formed to facilitate a specific type of business activity.

Question 31

Subordination

Answer 31

Form of internal credit enhancement that relies on creating more than one bond tranche and ordering the claim priorities for ownership or interest in anal asset between the tranches. The ordering of the claim priorities is called senior, subordinated structure, where the tranches of highest seniority are called senior followed by subordinated or junior tranches.

Question 32

Support Tranche

Answer 32

A class or tranche in a CMO that protects the PAC tranche from prepayment risk

Question 33

Time tranching

Answer 33

The creation of classes or tranches in an ABS/MBS that possess different (expected) maturities

Question 34

Weighted Average Coupon Rate

Answer 34

Weighting was the mortgage rate of each mortgage loan in the pool by the percentage of the mortgage outstanding relative to the outstanding amount of all the mortgages in the pool

Question 35

Weighted average life

Answer 35

A measure that gives investors an indication of how long they can expect to hold the MBS before it is paid off; the convention-based average time to receipt of all principal repayments.

Question 36

Weighted average maturity

Answer 36

Weighting the remaining number of moments to maturity for each mortgage loan in the pool by the amount of the outstanding mortgage balance