CHAPTER 5

Review of Structured Finance Collateral: Mortgage-Related Products

Structured finance (SF) collateralized debt obligations are CDOs backed by asset-backed securities (ABS), mortgage-backed securities (MBS), and real estate investment trusts (REITs). To evaluate SF CDOs, the first step is to understand the investment characteristics and features of structured finance products. A review of structured finance products is provided in this chapter and the next. In this chapter, we cover structured finance products backed by mortgage-related products: residential MBS, residential real estate-backed ABS, commercial MBS, and REITs. In the next chapter we cover nonmortgage asset-backed securities In Chapter 7, we discuss default and recovery rates for each type of collateral. SF cash flow CDOs will be discussed in Chapter 8.

RESIDENTIAL MORTGAGE-BACKED SECURITIES

Mortgage-backed securities (MBS) are securities backed by a pool (collection) of mortgage loans. While any type of mortgage loans, residential or commercial, can be used as collateral for a mortgage-backed security, most are backed by residential mortgages. Mortgage-backed securities include: (1) mortgage passthrough securities, (2) collateralized mortgage obligations, and (3) stripped mortgage-backed securities.

We begin our discussion with the raw material for a residential mortgage-backed security (RMBS)—the mortgage loan. A mortgage loan, or simply mortgage, is a loan secured by the collateral of some specified real ...

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