What are Mortgage Backed Securities (MBS)?

Published by Thomas Herold in Banking, Investments, Real Estate

'Mortgage Backed Securities (MBS)' is explained in detail and with examples in the Investments edition of the Herold Financial Dictionary, which you can get from Amazon in Ebook or Paperback edition.

Mortgage backed securities turn out to be a special kind of asset which have underlying collections of mortgages or individual mortgages that back them. To be qualified as an MBS, the security also has to be qualified as rated in one of two top tier ratings. Credit ratings agencies determine these ratings levels.

These securities generally pay out set payments from time to time which are much like coupon payments. Another requirement of MBS is that the mortgages underlying them have to come from an authorized and regulated bank or financial institution.

Sometimes mortgage backed securities are called by other names. These include mortgage pass through or mortgage related securities. Interested investors buy or sell them via brokers. The investments have fairly steep minimums. These are generally $10,000. There is some variation in minimum amounts depending on which entity issues them.

Issuers are either a GSE Government Sponsored Enterprise, an agency company of the federal government, or an independent financial company. Some people believe that government sponsored enterprise MBS come with less risk. The truth is that default and credit risks are always prevalent. The government has no obligation to bail out the GSEs when they are in danger of default.

Investors who put their money into these mortgage backed securities lend their money to a business or home buyer. Using an MBS, regional banks which are smaller may confidently lend money to their clients without being concerned whether the customers can cover the loan itself. Thanks to the mortgage backed securities, banks are only serving as middlemen between investment markets and actual home buyers.

These MBS securities are a way for shareholders to obtain principal and interest payments out of mortgage pools. The payments themselves can be distinguished as different securities classes. This all depends on how risky the various underlying mortgages are rated within the MBS.

The two most frequent kinds of mortgage backed securities turn out to be collateralized mortgage obligations (CMOs) and pass throughs. Collateralized mortgage obligations are comprised of many different pools of securities. These are referred to as tranches, or pieces. Tranches receive credit ratings. It is these credit ratings which decide what rates the investors will receive. The securities within a senior secured tranche will generally feature lesser interest rates than others which comprise the non secured tranche. This is because there is little actual risk involved with senior secured tranches.

Pass throughs on the other hand are set up like a trust. These trust structures collect and then pass on the mortgage payments to the investors. The maturities with these kinds of pass throughs commonly are 30, 15, or five years. Both fixed rate mortgages and adjustable rate ones can be pooled together to make a pass through MBS.

The pass throughs average life spans may end up being less than the maturity which they state. This all depends on the amount of principal payments which the underlying mortgage holders in the pool make. If they pay larger payments than required on their monthly mortgages, then these pass through mortgages could mature faster.

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The term 'Mortgage Backed Securities (MBS)' is included in the Investments edition of the Herold Financial Dictionary, which you can get from Amazon in Ebook or Paperback edition.