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

CREATING DIFFERENT TYPES OF MBS

The fundamental unit in the MBS market is the pool. At its lowest common denominator, mortgage-backed pools are aggregations of large numbers of mortgage loans with similar (but not identical) characteristics. Loans with a commonality of attributes such as note rate (i.e., the interest rate paid by the borrower on the loan), term to maturity, credit quality, loan balance, and product type are combined using a variety of legal mechanisms to create relatively fungible investment vehicles. With the creation of MBS, mortgage loans were transformed from a heterogeneous group of disparate assets into sizeable and homogenous securities that trade in a liquid market.

The transformation of groups of mortgage loans with common attributes into tradable and liquid MBS occurs using one of two mechanisms. Loans that meet the guidelines of the agencies (i.e., Fannie Mae, Freddie Mac, and Ginnie Mae, as discussed in the prior chapter) in terms of credit quality, underwriting standards, and balance are assigned an insurance premium, called a guaranty fee, by the agency in question and securitized as an agency pool. Loans that either do not qualify for agency treatment, or for which agency pooling execution is not efficient, are securitized in nonagency or “private label” transactions. These types of securities do not have an agency guaranty, and must therefore be issued under the registration entity or “shelf” of the issuer.² As noted later in this chapter, ...