Mortgage-Backed Securities

FRANK J. FABOZZI, PHD, CFA, is Professor of Finance at EDHEC Business School and a member of the EDHEC-Risk Institute. Prior to joining EDHEC, he held various professorial positions in finance at Yale University's School of Management from 1994 to 2011 and, from 1986 to 1992, was a visiting professor of finance and accounting at MIT's Sloan School of Management. He is also Editor of the Journal of Portfolio Management. ANAND K. BHATTACHARYA, PHD, is a Professor of Practice in the Department of Finance, W. P. Carey School of Business, Arizona State University, and a Fixed Income Strategist with Stifel, Nicolaus & Company, Inc. He has consulted with various financial institutions on issues of balance sheet restructuring and asset valuation. WILLIAM S. BERLINER is the Principal of Berliner Consulting & Research, LLC, a boutique firm specializing in mortgages and mortgage-backed securities. His primary focus is security and loan valuation and hedging, serving both institutional investors and mortgage originators. Berliner also writes a monthly column for Asset Securitization Report.

• Preface xiAbout the Authors xvPART ONE Introduction to Mortgage and MBS Markets 1CHAPTER 1 Overview of Mortgages and the Consumer Mortgage Market 3Overview of Mortgages 4Mortgage Loan Mechanics 12Risks Associated with Mortgages and Mortgage Products 17Concepts Presented in this Chapter 22CHAPTER 2 Overview of the Mortgage-Backed Securities Market 23Creating Different Types of MBS 24MBS Trading 35The Role of the MBS Markets in Generating Consumer Lending Rates 40Cash Flow Structuring 44Concepts Presented in this Chapter 46PART TWO Prepayment and Default Metrics and Behavior 47CHAPTER 3 Measurement of Prepayments and Defaults 49Prepayment Terminology 50Calculating Prepayment Speeds 52Delinquency, Default, and Loss Terminology 66Concepts Presented in this Chapter 76CHAPTER 4 Prepayments and Factors Influencing the Return of Principal 77 Prepayment Fundamentals 77Factors Influencing Prepayment Speeds 85Defaults and “Involuntary” Prepayments 92Concepts Presented in this Chapter 97PART THREE Structuring 99CHAPTER 5  Introduction to MBS Structuring Techniques 101Underlying Logic in Structuring Cash Flows 102Structuring Different Mortgage Products 103Fundamentals of Structuring CMOs 106CHAPTER 6 Fundamental MBS Structuring Techniques: Divisions of Principal 109Time Tranching 110Planned Amortization Classes (PACs) and the PAC–Support Structure 116Targeted Amortization Class Bonds 130Z-Bonds and Accretion-Directed Tranches 130A Simple Structuring Example 134Concepts Presented in this Chapter 140CHAPTER 7 Fundamental MBS Structuring Techniques: Divisions of Interest 141Coupon Stripping and Boosting 143Floater–Inverse Floater Combinations 147Two-Tiered Index Bonds (TTIBs) 156Excess Servicing IOs 160Concepts Presented in this Chapter 166CHAPTER 8 Structuring Private-Label CMOs 167Private-Label Credit Enhancement 169Private-Label Senior Structuring Variations 176Governing Documents 189Concepts Presented in this Chapter 191CHAPTER 9 The Structuring of Mortgage ABS Deals 193Fundamentals of ABS Structures 194Credit Enhancement for Mortgage ABS Deals 199Factors Influencing the Credit Structure of Deals 201Additional Structuring Issues and Developments 203Concepts Presented in this Chapter 208PART FOUR Valuation and Analysis 209CHAPTER 10 Techniques for Valuing MBS 211Static Cash Flow Yield Analysis 211Z-Spread 213Valuation Using Monte Carlo Simulation and OAS Analysis 214Total Return Analysis 226Concepts Presented in this Chapter 229CHAPTER 11 Measuring MBS Interest Rate Risk 231Duration 231Convexity 238Yield Curve Risk 241Other Risk Measures 242Concepts Presented in this Chapter 244CHAPTER 12 Evaluating Senior MBS and CMOs 245Yield and Spread Matrices 246Monte Carlo and OAS Analysis 262Total Return Analysis 268Evaluating Inverse Floaters 274Concepts Presented in this Chapter 279CHAPTER 13 Analysis of Nonagency MBS 281Factors Impacting Returns from Nonagency MBS 281Understanding the Evolution of Credit Performance within a Transaction 284The Process of Estimating Private-Label MBS Returns 290Concepts Presented in this Chapter 304APPENDIX An Option-Theoretic Approach to Valuing MBS 305Option-Theoretic Models for Valuing MBS 306An Option-Based Prepayment Model for Mortgages 307Valuation of Mortgages 311A Closer Look At Leapers and Laggards 319Valuation of MBS 323Index 327