12_09_2010 Wrap_Up_MBS_Housing

12_09_2010 Wrap_Up_MBS_Housing - FIXED INCOME SECURITIES...

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1 NAME OF INITIATIVE OR GROUP FIXED INCOME SECURITIES Fall 2010 – FNCE 235/725 Prof. Stephan Dieckmann December 9, 2010 WRAP-UP / MBS / HOUSING
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2 What’s next? Two Possibilities Managing Fixed Income Portfolios • FNCE 894 Financial Engineering • FNCE 892
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3 Wrap-Up Blockbuster
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4 Wrap-Up Pre / Post QE 2 Announcement
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5 Negative Convexity A features of mortgages Mortgages can have negative convexity, similar to callable debt. The dollar duration increases as the level of interest rates increases. In July 2010, a large fraction of mortgages had a duration (measured in years) of 1 year. In December 2010, these mortgages have a duration of 3 years. Investors with a large position in MBS now have increased exposure to rising interest rates. How to hedge?
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6 Different Mortgages By Product Fixed Rates • Rates are constant over the mortgage life • Typical terms are 30-year, 20-year, 15-year Adjustable Rates ARM • Rates are floating • Typical reference rates are LIBOR, MTA, CMT • Rates are subject to caps and floors on changes and levels Hybrid ARM • Rates are constant for an initial period • Floating thereafter
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7 Different Mortgages By Amortization Amortizing Interest Only • Only interest due the first few years the amortizing Negative Amortization • Initial amount due is less than interest Balloon • As some pre-specified date the residual becomes due as a lump sum
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8 Mortgages Example of a typical annuity This is a typical mortgage loan that could be included in the pool of mortgages to be securitized Suppose the term structure is flat at 6.5% p.a. You want to finance 300,000 with an annual annuity over 5 years? What is the per-period cash flow? t
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12_09_2010 Wrap_Up_MBS_Housing - FIXED INCOME SECURITIES...

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