Other Debt Securities

Question 1

Collateralized Mortgage Obligations (CMOs)

Answer 1

• Streams of interest and principal payments are sliced up into separate TRANCHES, then distributed to different classes of investors.
• Bonds are issued on each TRANCHE, with each on carrying different balances, coupon rates, and prepayment risk
• Created for a LARGE POOL of RESIDENTIAL MORTGAGES
• SUBJECT TO PREPAYMENT RISK and EXTENSION RISK
• INTEREST is SUBJECT to taxation at FEDERAL, STATE, and LOCAL level
• ISSUED in $1000 increments
• NOT SUITABLE FOR SMALL INVESTORS
• GREATER RISK THAN TREASURY SECURITES

Question 2

Government Agency Debt

Answer 2

• Federal Agencies that issue or guarantee mortgage-backed securities, which ARE RESIDENTIAL MORTGAGES PACKED INTO SECURITIES
• IF INTEREST RATES GO DOWN ITS BAD FOR THE INVESTOR, BECAUSE PEOPLE WILL PAY OFF THEIR HOUSES SOONER
• GINNIE MAE (GNMA)-BACKED BY FULL FAITH AND CREDIT OF US GOV
• FANNIE MAE- NOT BACKED
• FREDDIE MAC-NOT BACKED
• SUBJECT TO; PREPAYMENT RISK, EXTENSION RISK AND REINVESTMENT RISK