Mortgage-backed security

A mortgage-backed security (MBS) is a type of asset-backed security (an 'instrument') which is secured by a mortgage or collection of mortgages. The mortgages are aggregated and sold to a group of individuals (a government agency or investment bank) that securitizes, or packages, the loans together into a security that investors can buy. Bonds securitizing mortgages are usually treated as a separate class, termed residential; another class is commercial, depending on whether the underlying asset is mortgages owned by borrowers or assets for commercial purposes ranging from office space to multi-dwelling buildings. The structure of the MBS may be known as "pass-through", where the interest and principal payments from the borrower or homebuyer pass through it to the MBS holder, or it may be more complex, made up of a pool of other MBSs. Other types of MBS include collateralized mortgage obligations (CMOs, often structured as real estate mortgage investment conduits) and collateralized

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Understanding Mortgage Spreads

Because most mortgages in the United States are securitized in agency mortgage-backed securities (MBS), yield spreads on MBS are a key determinant of homeowners’ funding costs. We study variation in MBS spreads in the time series and across securities and document that MBS spreads show a pronounced cross-sectional smile with respect to the securities’ coupon rates. We present a new pricing model that uses “stripped” MBS prices to identify the contribution of non-interest-rate prepayment risk to spreads and find that this risk explains the smile, whereas the time-series spread variation is mostly accounted for by nonprepayment risk factors.Received March 30, 2015; editorial decision November 21, 2018 by Editor Leonid Kogan. Authors have furnished an Internet Appendix, which is available on the Oxford University Press Web site next to the link to the final published paper online.

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The Rising Gap between Primary and Secondary Mortgage Rates

While mortgage rates reached historic lows during 2012, the spread between primary and secondary rates rose to very high levels. This trend reflected a number of factors that potentially affected mortgage originator costs and profits and restrained the pass-through from lower secondary rates to borrowers’ funding costs. This article describes the mortgage origination and securitization process and the way in which originator profits are determined. The authors calculate a series of originator profits and unmeasured costs (OPUCs) for the period 1994 to 2012, and show that these OPUCs increased significantly between 2008 and 2012. They also evaluate the extent to which some commonly cited factors, such as changes in loan putback risk, mortgage servicing rights values, and pipeline hedging costs contributed to the rise in OPUCs. Although some costs of mortgage origination may have risen in recent years, a large component of the rise in OPUCs remains unexplained, pointing to increased profitability of originations. The authors conclude by discussing possible drivers of the rise in profitability, such as capacity constraints and originators’ pricing power resulting from borrowers’ switching costs.

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