Lately it seems that you can not turn on the evening news, or open a newspaper without hearing about the housing market and the poor economy. One of the factors that has lead to the credit crunch here in the USA is the issuance of bonds that are backed by mortgages. Basically, if a bond is issued based on a homeowners ability to pay, and then the homeowner never pays then the bond insurance company is forced to step in. These bonds are cheap, but not very liquid right now because the market for them has tanked.
With all of the bad news, it seems that we at Landes have developed a niche for these bonds. In fact we have seen so many over the past few months that if I never see another CMO, it will be too soon. All of that aside, I feel like its a good idea to explain what CMOs are.
In 1983, the introduction of Collateralized Mortgage Obligations (CMOs) by the Federal Home Loan Mortgage Corporation established a new investment vehicle for investors not traditionally involved in the mortgage market. The Tax Reform Act of 1986 authorized the establishment of Real Estate Mortgage Investment Conduit (REMICs) which provided monthly pay possibilities to investors and a tax advantage to issuers. For investment purposes, REMIC securities are indistinguishable from CMOs. Today, virtually all CMOs issued are actually REMICs. The CMO market has grown to hundreds of billions of dollars in size since its inception in 1983 and today accounts for an ever increasing and important segment of the overall mortgage market. Please contact us for information on CMOs and how they react to different market conditions.
What are CMOs?
CMOs are multi-class bonds that are collateralized by mortgage backed securities such as Ginnie Maes (Government National Mortgage Association), Fannie Maes (Federal National Mortgage Association), Freddie Macs (Federal Home Loan Mortgage Corporation), or by whole loan mortgages. The cash flows generated by the collateral are used to pay principal and interest to the CMO bondholder.
Who Issues CMOs?
CMOs are most often issued by the Federal National Mortgage Association (FNMA) and the Federal Home Loan Mortgage Corporation (FHLMC), both government sponsored corporations. While FHLMC and FNMA dominate the new issue market, many private issuers regularly bring CMOs to market also.
What are the Benefits of CMOs?
CMOs may offer substantially higher yield than other securities with comparable credit quality. Each CMO issue offers a variety of different maturities, allowing investors to choose the class that best meets their investment objectives. CMOS also have market risk and a risk of pre-payment.
