Mortgage-Backed Securities: Products, Structuring, and Analytical Techniques

CHAPTER 2

Overview of the Mortgage-Backed Securities Market

The growth of the real estate and primary mortgage markets have, quite naturally, led to the rapid expansion of the mortgage-backed securities—or MBS—market. According to the Bond Market Association, there were $6.4 trillion in MBS outstanding at the end of the third quarter of 2006, which would make it roughly 49% larger than the Treasury market at that time. The size of the MBS market, as well as the broad range of products offered, reflect the growth and diversity of the market for fixed income investment vehicles. It has also caused fixed income investment managers to be cognizant of developments in the MBS markets and sensitive to factors driving MBS issuance and performance.

In the most general sense, originators securitize loans to tap the capital markets for funding and liquidity. Mortgage lenders accept applications, fund loans, sell them into the capital markets in the form of MBS, and then recycle the resulting proceeds into new lending. Before the development of the MBS markets, lenders made mortgage loans from deposits and typically held the loans in their portfolio. This resulted in periodic shortages of mortgage money when local financial conditions were relatively illiquid; in addition, lenders’ profitability was tied to the shape of the yield curve and the ability to earn a spread over funding costs. The development of an actively traded market for mortgage products over the last quarter-century ...