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CMO Examples

CMO Examples. Fall 2010. Basic Sequential Pricing. Source: RBS Greenwich Capital MBS Strategy Report (11/16/07). Estimating Coupons. Rough Estimate of Debt Capacity. PV of 5% Mortgage Cash Flows Discounting at 6.15%: $88.1 million~~$90M PV of 6% Cash Flows

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CMO Examples

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  1. CMO Examples Fall 2010

  2. Basic Sequential Pricing Source: RBS Greenwich Capital MBS Strategy Report (11/16/07)

  3. Estimating Coupons

  4. Rough Estimate of Debt Capacity • PV of 5% Mortgage Cash Flows • Discounting at 6.15%: $88.1 million~~$90M • PV of 6% Cash Flows • Discounting at 6.35%:$96.4 million

  5. Structuring a CMO– 5% FNMA Collateral • Collateral Description • WAC:5.687 • WAM: 27 year 10 months • Servicing: .687% • Price: 96-31=96.97 (Discount Collateral) • CMO Structure • Start with 35/30/20/15 mix • Start with $88 million of debt • Initial weighted average debt cost 5.38%

  6. Describe the Cash Flows Associated with the Underlying 5% MBS Sources: Bloomberg pages DES, used 3 month average CPR

  7. CMO Structure 5% To see this, switch to CMO Tab and describe the CMO structure.

  8. Fine-Tuning the Structure • The pricing of sequential tranches is pretty standard • Structure needs to generate tranches with maturities that approximate the assumed maturity for pricing spreads • The key is to be able to sell the residual tranche • Amount of debt (the 88 mil), mix of debt (the % A, %B, etc) all influence the IRR of the residual • Shifting debt to shorter maturity tranches can increase cash flow to residual early on (because of the lower WAC of the CMO tranches), but increases the life of those short tranches • Raises question about pricing spreads • Increasing the amount of debt must be closely watched to make sure the structure can withstand stress tests • Zero prepay • All prepay • “Snake” Scenarios

  9. Structuring a CMO– 6% FNMA Collateral • Collateral Description • WAC:6.556 • WAM: 28 year 11 months • Servicing: .556% • Price: 101-3 (Premium Collateral) • CMO Structure • Start with 35/30/20/15 mix • Start with $96 million of debt (larger than with 5%) • Initial weighted average cost of CMO debt:5.60%

  10. Describe the Cash Flows Associated with the Underlying 6% MBS Sources: Bloomberg pages DES, used 3 month average CPR

  11. CMO Structure 6% Collateral To see this, switch to CMO Tab and describe the CMO structure.

  12. The 6% Collateral CMO • The plots, graphs and tests of the structure of this CMO are similar to those of the 5% MBS collateral • I will next turn to how the structure reacts to changes in rates and prepay speeds and how returns to the residual holder differ for the two different types of collateral.

  13. Interest Rate Sensitivity • As interest rates change, prepayments change and alter the cash flows • Rates fall, prepays increase and early tranches payoff quickly • Rate rise, prepays slow and early tranches extend in maturity

  14. Interest Rate Sensitivity 5% collateral, 1000% PSA (down between 100 & 200 bp)

  15. Interest Rate Sensitivity 5% collateral, 1000% PSA (down between 100 & 200 bp)

  16. Interest Rate Sensitivity 5% collateral, 1000% PSA (down between 100 & 200 bp)

  17. Duration Sensitivity to Prepayment5% Collateral

  18. Interest Rate Sensitivity-- Residual 5% collateral, 1000% PSA (down between 100 & 200 bp) IRR 12.5% because cash flow received so much earlier

  19. CMO Creator Can Tailor Residual Characteristics to Suit Investors Taste • By adjusting the collateral and the structure, CMO issuers can tailor the characteristics of the residual to suit an investors market view • Bullish investments that benefit if rates fall • Bearish investments that benefit if rates rise

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