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

A SIMPLE STRUCTURING EXAMPLE

To illustrate how the different structuring techniques can be utilized, the following section shows a simple problem often encountered by structurers: what is the most efficient way to smooth the profile of a short support to make it marketable to relatively conservative investors such as banks and depositories? For background, the bank regulatory agencies (collectively known as the Federal Financial Institution Examination Council or FFIEC) released a set of rules in 1992 governing investments in MBS. Known as the FFIEC rules, they stated that structured MBS should meet the following criteria at the time of purchase:

• Their base-case average life should not exceed 10.0 years.

• Their projected average life should not shorten by more than six years, or extend by more than four years, in interest rate scenarios where the yield curve shifts plus or minus 300 basis points in a parallel fashion.

• Their projected price should not decline by more than 17.0% in the event of a 300 basis point rate shift.

EXHIBIT 6.19 Deal-05 CMO Sequential Pay Structure with a VADM Tranche

EXHIBIT 6.20 Average Lives for Tranches in Deal-05

Securities that did not meet these standards were classified as “high-risk investments.” In theory, depositories could buy high-risk ...