Deck 26: Securitization Index

Question 1

The three Canadian government agencies that sponsor the creation of mortgage-backed, pass through securities are: CMHC, FNMA, and CDIC.

Answer 1

False

Question 2

The securities that form a NHA CMHC pass-through are Treasury bonds, bills, and notes.

Answer 2

False

Question 3

CMHC will sponsor any pool of loans regardless of the size of each individual loan in the pool.

Answer 3

False

Question 4

Full amortization of a twenty-five-year fixed rate mortgage means that monthly payments are equal and include both principal and interest.

Question 5

NHA MBS pass-through bondholders can be protected against default risk by CMHC housing insurance.

Question 6

NHA CMHC MBS pass-throughs can assist an FI in resolving duration mismatch and illiquidity risk problems.

Question 7

When a Special Purpose Vehicle (SPV) creates asset-backed securities, the SPV retains ownership of the original assets.

Question 8

Investors in NHA CMHC pass-through securities are exposed to the risk that the originating bank may fail, and the risk that the trustee may mismanage monthly interest and principal payments collected.

Question 9

CMHC supports only those pools of mortgages that comprise mortgage loans whose default or credit risk is insured by other government agencies.

Question 10

CMHC is a privately-owned entity.

Question 11

The availability of a liquid secondary market for asset-backed securities provided an incentive for FIs to follow an originate-to-distribute strategy of loan origination.

Question 12

Securitization of assets increases the FI's capital requirements.

Question 13

All tranches in a collateralized mortgage obligation (CMO) have the same prepayment risk exposure.

Question 14

CMHC helps create pass-through asset-backed securities by providing timing insurance.

Question 15

Deposit-taking institutions have followed and originate-to-distribute model of loan origination only since the financial crisis in 2007.

Question 16

On September 7, 2008, FNMA and FHLMC were placed under conservatorship and both are controlled by a U.S. federal government agency.

Question 17

CMHC will securitize conventional mortgages issued by Canadian deposit-taking institutions.

Question 18

The life of a Structured Investment Vehicle (SIV) is not tied to any particular asset class that it is responsible for securitizing.

Question 19

Despite the complexity of measuring the risk of asset-backed securities, credit rating agencies continued to use their own measures to quantify risks involved.

Question 20

Investors in a Structured Investment Vehicle (SIV) have no direct right to the cash flows on the underlying portfolio of the SIV.

Question 21

The value of an interest-only (IO) mortgage-backed strip is not sensitive to changes in current market interest rates.

Question 22

The weighted-average life of a loan is always greater than the duration of the loan.

Question 23

A good news effect of increased mortgage prepayments on a mortgage pool caused by decreasing market interest rates includes the receipt of fewer scheduled interest payments.

Question 24

The ability to refinance a mortgage with no prepayment penalty gives the borrower a long-term put option on interest rates.

Question 25

A mortgage pass-through strip security is a special type of collateralized mortgage obligation (CMO).

Question 26

A bad news effect of increased mortgage prepayments on a mortgage pool caused by decreasing market interest rates includes a reduction in the discount rate on the mortgage cash flow.

Question 27

All else equal, once a mortgage pool has aged, prior prepayments of mortgages in the pool have no bearing on the current value of the pool or the future prepayment rates of mortgages left in the pool.

Question 28

Mortgage pools that are assumed to prepay at a rate of speed that is more rapid than the PSA model would indicate, are said to prepay at less than 100 percent PSA behavior because the mortgage life and balance will exist for a longer time.

Question 29

Mortgage-backed bonds are a form of on-balance-sheet securitization.

Question 30

One advantage of asset securitization to a bank is the ability to originate new assets before the original assets have matured.

Question 31

Prepayment risk means that realized cash flows on pass-through securities may be more than expected cash flows.

Question 32

An interest-only (IO) mortgage pass-through strip has a claim on the present value of interest payments on the mortgages in a NHA MBS pool.

Question 33

Prepayment models are attempts by professional mortgage portfolio managers to estimate the rate of prepayment on given mortgage pools.

Question 34

The call option held by the residential mortgage holder is in the money when market interest rates are less than the interest rate on an existing mortgage.

Question 35

Early prepayments on mortgages backing a CMO are normally allocated to the earliest existing tranche maturity.

Question 36

One cause of residential mortgage prepayment risk is the sale of the mortgaged property.

Question 37

Mortgage-backed bonds differ from CMOs and pass-through securities in that there is no direct link between the cash flows on the mortgages and the interest and principal payments on the bonds.

Question 38

Most mortgage-backed bond issues conducted by deposit-taking institutions are under-collateralized.

Question 39

It is advantageous for the residential mortgage holder to refinance because market interest rates on new mortgages are less than interest rates on existing mortgages.

Question 40

The creation and sale of CMOs is based, at least in part, on the ability to segment the market for pass-through security products.

Question 41

Which type of loans are securitized most often?

A)Residential mortgages.
B)Credit card loans.
C)Auto loans.
D)Student loans.
E)Business loans.

Question 42

An interest-only (IO) mortgage-backed strip is a rare example of a negative duration asset.

Question 43

Which of the following assets have not been securitized by FIs?

A)Mortgages.
B)Credit card receivables.
C)Auto loans.
D)Long-term deposits held at other FIs.
E)Student loans.

Question 44

A principal-only (PO) mortgage pass-through strip security is attractive to investors that wish to increase the interest rate sensitivity of their portfolio.

Question 45

Which of the following good news and bad news effect is NOT true when mortgage interest rates decline, resulting in faster repayments?

A)Lower market yields reduce the discount rates on any mortgage cash flows and increase the present value of any given stream of cash flows (good news effect).
B)Low yields lead to faster prepayment of the mortgage pool's principal (good news effect).
C)With early prepayments comes fewer interest payments in absolute terms (bad news effect).
D)Faster cash flows due to prepayments can only be reinvested at lower interest rates (bad news effect).
E)Faster cash flows due to prepayments can be reinvested at higher interest rates (good news effect).

Question 46

At market rates substantially below the mortgage coupon rate of an interest-only (IO) mortgage-backed strip, the prepayment effect will dominate the discount effect resulting in a decrease in the price of the IO strip.

Question 47

The packaging of loans into asset pools and then selling portions of the pool to investors is known as

A)security creation.
B)securitization.
C)loan transfer.
D)loan collateralization.
E)mutual fund management.

Question 48

Which of the following is NOT a factor that may cause the prepayment risk on a pool of mortgages to differ from the PSA's assumed pattern?

A)The age of the mortgage pool.
B)Geographic location.
C)Seasons in the year in which the mortgage was originated.
D)Full or partial amortization of the payments.
E)Assumability of mortgages in the pool.

Question 49

A claim to the present value of the interest payments made by the mortgage holders in an MBS pool is

A)a CARS.
B)an IO strip.
C)a CARD.
D)a PO strip.
E)a prepayment claim.

Question 50

Investors in mortgage-backed pass-through securities are exposed to a variety of risks. Compared to other fixed-income securities, the most unique of these risks is

A)prepayment risk
B)default risk
C)credit risk
D)interest rate risk
E)liquidity risk

Question 51

All else equal, advantages of a DTI operating as an asset broker in regard to mortgages includes all of the following EXCEPT

A)lower regulatory taxes.
B)increased fee-based income.
C)increased liquidity.
D)decreased asset and liability duration mismatch.
E)increased capital requirements.

Question 52

Which of the following is an incentive to securitize mortgage assets?

A)To reduce the regulatory tax burden on the FI.
B)To adjust the gap exposure of the FI.
C)To improve the liquidity of the FI.
D)To generate non-interest sensitive fee income.
E)All of these.

Question 53

A principal only (PO) mortgage-backed strip is attractive to investors who wish to speculate about decreasing interest rates.

Question 54

A commercial bank operating under an originate-to-distribute model is acting most like

A)an asset transformer.
B)an asset broker.
C)a portfolio lender.
D)an asset accumulator.
E)an investment bank.

Question 55

The discount effect and the prepayment effect are negatively correlated in their impact on the value of a principal-only (PO) mortgage-backed strip security.

Question 56

Which of the following is not accomplished by securitization of assets?

A)Increases the liquidity of assets.
B)Provides a new source of funds.
C)Increases the costs of monitoring.
D)Decreases the duration of assets.
E)Decreases the costs of regulation.

Question 57

Mortgage-backed bonds (MBB) differ from pass-throughs and CMOs in which of the following ways?

A)The MBB bondholders have a junior claim to assets of the FI.
B)There is no direct link between the cash flow on the mortgages backing the bond and the interest and principal payments on the MBB.
C)The assets backing a MBB issue are normally removed from the balance sheet of the FI.
D)Tranches of a MBB are treated equally with respect to prepayments on mortgages backing the bond issue.
E)None of these.

Question 58

Which of the following is a primitive form of asset securitization?

A)Loan sales.
B)Pass-through security.
C)Collateralized mortgage obligation.
D)Mortgage-backed bond.
E)Timing insurance.

Question 59

Which of the following is the is a source of prepayment risk on a typical NHA mortgage-backed pass-through security?

A)Refinancing.
B)Default risk.
C)Housing turnover.
D)Non-assumable mortgages.
E)All of these.

Question 60

Servicing a pass-through security refers to

A)an FI processing of all payments.
B)an FI provision of clearing services to set up the pass-through.
C)broker/dealer services provided by the FI to the ultimate holders of the pass-through.
D)guarantee by the FI of all principal and interest payments.
E)an FI provision of liquidity services to the ultimate holders of the pass-through.

Question 61

Why are the regular NHA MBS pass-throughs not very attractive to insurance companies and pension funds seeking long-term duration assets to match their long-term duration liabilities?

A)Because of their short expected duration.
B)Because these bonds have the shortest average life with a maximum of prepayment protection.
C)Because they are zero coupon bonds and hence carry maximum amount of risk.
D)Because of their failures to offer prepayment protection.
E)Bondholders receive the promised coupon and principal payments but are not entitled to accrued interest payments.

Question 62

Which of the following best explains the term burn-out factor?

A)The percent of mortgage contract that is transferred from the seller to the buyer of a house.
B)The required interest spread of a pass-through security over a treasury when prepayment risk is taken into account.
C)The aggregate percent of the mortgage pool that has been prepaid prior to the month under consideration.
D)A mortgage-backed bond issued in multiple classes or tranches.
E)Bonds collateralized by a pool of assets.

Question 63

Which of the following is NOT true of an R class CMO issue?

A)It is treated as "garbage class."
B)It is a high-risk investment class.
C)It gives the investor the rights to the over-collateralization and reinvestment income on the cash flows in the CMO trust.
D)Returns increase when interest rates increase.
E)It has a positive duration.

Question 64

Which of the following is true concerning an assumable mortgage?

A)The aggregate percent of the mortgage pool that has been prepaid prior to the month under consideration.
B)The mortgage contract is transferred from the seller to the buyer of a house.
C)The required interest spread of a pass-through security over a treasury when prepayment risk is taken into account.
D)A mortgage-backed bond issued in multiple classes or tranches.
E)Bonds collateralized by a pool of assets.

Question 65

Which of these CMO issues has characteristics of both a zero-coupon bond and a regular bond?

A)Class A bonds.
B)Class B bonds.
C)Class C bonds.
D)Class Z bonds.
E)None of these.

Question 66

An FI operating in the United States funds a US$5 million residential mortgage in 2014 by allocating capital and by issuing demand deposits. The mortgage represents a loan-to-value of 70 percent. The demand deposits have a reserve requirement of 10 percent and a deposit insurance premium to FDIC of 23 basis points. What amount of demand deposits are needed to fund the mortgage?

A)$5,500,000.
B)$400,000.
C)$5,555,555.
D)$500,000.
E)$5,000,000.

Question 67

What is defined as the sum of the products of the time when principal payments are received and the amount of principal received all divided by total principal outstanding?

A)Weighted-average life.
B)Burn-out factor.
C)Degree of collateralization.
D)Option-adjusted spread.
E)Time to maturity.

Question 68

In regard to a CMO, which of the following have the shortest average life with a minimum of prepayment protection?

A)Class A bonds.
B)Class B bonds.
C)Class C bonds.
D)Class Z bonds.
E)Class R bonds.

Question 69

This is an accrual class of a CMO that makes a payment to bondholders only when preceding CMO classes have been retired.

A)Class A bonds.
B)Class B bonds.
C)Class C bonds.
D)Class Z bonds.
E)None of these.

Question 70

These bonds have some prepayment protection and expected durations of five to seven years depending on the level of interest rates and are primarily purchased by pension funds and life insurance companies.

A)Class A bonds.
B)Class R bonds.
C)Class C bonds.
D)Class Z bonds.
E)Class B bonds.

Question 71

An FI operating in the United States funds a US$5 million residential mortgage in 2014 by allocating capital and by issuing demand deposits. The mortgage represents a loan-to-value of 70 percent. The demand deposits have a reserve requirement of 10 percent and a deposit insurance premium to FDIC of 23 basis points. What would have been the capital requirements if the FI had securitized the mortgage?

A)$0.
B)$400,000.
C)$200,000.
D)$500,000.
E)$5,000,000.

Question 72

One hundred identical mortgages are pooled together into a pass-through security. Each mortgage has a $150,000 principal, a fixed annual interest rate of 8 percent (paid monthly), and is fully amortized over a term of 30 years. For the first monthly payment, what portion is principal and what portion is interest?

A)$100,000 principal and $10,065 interest.
B)$12,000 interest and no principal.
C)$100,000 interest and no principal.
D)$100,000 interest and $10,065 principal.
E)$10,000 interest and $2,000 principal.

Question 73

Which of the following is an example of a negative duration asset that is valuable as a portfolio-hedging device for an FI manager when included with regular bonds whose price-yield curves show the normal inverse relationship.

A)PO strip.
B)IO strip.
C)Class B bonds
D)Class Z bonds
E)Class A bonds

Question 74

Identify the residual class of a CMO that gives the owner the right to any remaining collateral in the trust after all other bond classes have been retired plus any reinvestment income earned by the trust.

A)Class A bonds.
B)Class B bonds.
C)Class C bonds.
D)Class Z bonds.
E)Class R bonds.

Question 75

One hundred identical mortgages are pooled together into a pass-through security. Each mortgage has a $150,000 principal, a fixed annual interest rate of 8 percent (paid monthly), and is fully amortized over a term of 30 years. What is the monthly payment on the mortgage pass-through?

A)$100,000.
B)$110,065.
C)$12,000.
D)$12,000,000.
E)$80,000.

Question 76

One hundred identical mortgages are pooled together into a pass-through security. Each mortgage has a $150,000 principal, a fixed annual interest rate of 8 percent (paid monthly), and is fully amortized over a term of 30 years. If the entire mortgage pool is repaid after the second month, what is the second month's (liquidating) principal and interest payments?

A)$99,933 interest and $14,989,935 principal.
B)$100,000 interest and $10,065 principal.
C)$100,000 interest and $15,000,000 principal.
D)$99,933 principal and $14,989,935 interest.
E)$12,000 interest and $138,000 principal.

Question 77

An FI operating in the United States funds a US$5 million residential mortgage in 2014 by allocating capital and by issuing demand deposits. The mortgage represents a loan-to-value of 70 percent. The demand deposits have a reserve requirement of 10 percent and a deposit insurance premium to FDIC of 23 basis points. What is the deposit insurance premium on the demand deposits issued to fund the mortgage?

A)$11,756.
B)$12,778.
C)$11,500.
D)$1,150.
E)$9,200.

Question 78

An FI operating in the United States funds a US$5 million residential mortgage in 2014 by allocating capital and by issuing demand deposits. The mortgage represents a loan-to-value of 70 percent. The demand deposits have a reserve requirement of 10 percent and a deposit insurance premium to FDIC of 23 basis points. What is the minimum capital requirement on the mortgage in order for the institution to be adequately capitalized?

A)$0.
B)$400,000.
C)$200,000.
D)$500,000.
E)$5,000,000.

Question 79

Why are the class C bonds highly attractive to insurance companies and pension funds?

A)Because of their ability to offer perfect prepayment protection.
B)Because of the shortest average life with a minimum of prepayment protection.
C)Because of their long expected duration.
D)Because they are basically zero coupon bonds and hence carry a minimum amount of risk.
E)Because of their ability to offer perfect prepayment protection, and because they are basically zero coupon bonds and hence carry a minimum amount of risk.

Question 80

Why do garbage class bonds often have a negative duration?

A)The value of the returns in this bond class increases when interest rates increase.
B)It gives the rights to collateralization.
C)Bond values fall with interest rate increases.
D)It gives rights to reinvestment income on the cash flows in the CMO trust.
E)Significant risk premium required by the uninsured depositors.