Chris continues his series on residential mortgage securities, discussing prepayment and how to analyze and manage prepayment risk.
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Bond Investment Mentor Episode 6
[Music Intro]
Chris Nelson: Hi there, welcome to Bond Investment Mentor! I'm your host, Chris Nelson, and this is a podcast dedicated to helping community financial institutions master the art of fixed-income investments. If you're working for a community bank or credit union and you have responsibilities for the investment portfolio, you've come to the right place. I'll be your personal investment guide as we help you boost your fixed-income investment knowledge, level up your portfolio management skills, and help you gain the know-how you need to help your institution achieve its financial goals.
In this episode, we're going to continue exploring residential mortgage-backed securities. Specifically, we're going to dive into prepayment and prepayment risk, how to measure it, and more importantly, how to manage it. There's a lot of ground to cover. We've got this, so let's get started!
[Music Out]
Chris: Welcome to Bond Investment Mentor! How are you? I hope that you're having a good week. Today we're going to cover some pretty meaty stuff. Now in the last episode, I covered some of the basics of mortgage-backed securities. If you haven't had a chance to do so I'd encourage you to go back and listen to that episode first, as I cover a lot of the terms and concepts that will come in handy later, kind of laying the groundwork, you know? But before we go there, I have a couple of other items that I want to cover. We're going to take a look at recent economic and financial moves. I want to discuss a question I received about investing in Treasury securities. And I'd like to share a resource I found for those of you that invest in muni bonds.
So, let's start with the economic news. Here are the top three things you need to know. First of all, retail sales. The May retail sales report was yet another in the series of volatile economic data that we've seen due to the pandemic. Retail sales rose 17.7% in May, which was well above the economists' estimate of 8.4% and is the largest increase on record. Keep in mind, however, that this report comes off two extremely weak reports as the US economy shut down a couple of months ago. Despite the huge gain, retail sales are still off their pace prior to the pandemic outbreak. So, the report represented a rebound of sorts as the “great reopening” continued. There was a Wall Street Journal article I saw this week that noted while retail spending had increased, consumers were remaining cautious about their spending habits due to concerns about the economy, so we'll need to see how this plays out.
The second piece of news is about Federal Reserve Chair Jay Powell making his way to Capitol Hill this week for his twice a year appearance before Congress. Much of what he said before both the Senate Banking Committee and the House Financial Services Committee was a repeat of his comments following last week's Federal Open Market Committee meeting. Powell commented that the economy is likely to continue struggling in the wake of the coronavirus pandemic and that a full recovery is not likely to happen until public confidence improves. He also reiterated that the Fed would continue to do what it could to support the function of the financial markets. And he also mentioned the need for continued fiscal policy support from Congress and the White House.
Something else that Powell was asked about was the use of yield curve control, which I discussed in our last episode. He responded that the Fed hadn't made any decisions yet about whether to employ such a tactic and added that it was, “an early-stage thing that we're evaluating.” So more to come on that.
And then finally, initial jobless claims increased by 1.5 million this week, which was above expectations of about 1.3 million, and it was roughly in line with the previous week's report. It was a similar story for continuing claims. They came in at 20.5 million again, above expectations, and fairly flat when compared to last week. So, what did all of this news mean for interest rates? Not much, really. With nothing major driving the markets this week, rates across the curve ended about where they were at the end of last week. The 10-year was around 0.70%. Seven-year rates were around 0.50%, the five-year was at 0.33%, and the two-year Treasury was a whopping 19 basis points. So, that's the latest news from the financial markets.
[Music]
Chris: I was talking with a community banker recently and she asked me a question that I wanted to share. It was about investing in Treasury securities. Her institution had been holding some Treasuries in their portfolio that had matured, and she was wondering if there was any need to keep the funds invested in Treasuries for any regulatory or any other reasons. I let her know there wasn't a requirement to hold Treasuries specifically and that certainly other fixed-income securities could be alternatives depending on her bank’s situation.
In talking with other community bankers over the years, I've rarely heard about anyone using Treasuries in their portfolio. It does happen, but not very often. So, is there any reason to really think about doing such a thing and putting money into Treasuries?
Well, I can give you three examples where investing in Treasuries might make sense. The first reason to consider investing in Treasuries is for liquidity purposes. Treasuries are the most liquid fixed-income investments available. And because of this, they are a consideration for times when you need to have highly liquid investments in your portfolio. This is especially true for the larger banks who use Treasury securities to help maintain compliance with regulatory liquidity guidelines.
Another reason for using Treasuries in your portfolio is that Treasuries have no capital risk exposure. Because of their risk-free nature and their full faith and credit backing, they are considered zero risk-weighted assets, and there's no requirement to reserve capital for holding them on your balance sheet. An example of a financial institution doing this would be one that faces tight capital ratios, something I refer to as being “capitally challenged,” and they need to consider Treasuries as a way to invest in earning assets without using up precious capital.
And then the third reason to consider investing in Treasuries is when comparable yield spreads are tight relative to the yield on the Treasury. Normally, all securities are going to trade at a spread that's above the risk-free Treasury rate. However, there might be an occasion where spreads on other bonds, like agencies, for example, will tighten until they're sitting almost on top of comparable Treasury yields. Under such circumstances, it might make more sense to simply purchase the Treasury. After all, if you're not getting paid for the risk, no matter how minimal it might be, why take it?
This was a situation I faced a number of years ago when the spread on bullet agencies had tightened to the point that they were only a couple of basis points above the Treasuries. So, I just took the Treasury and I went on my way.
So, there's three reasons where investing in Treasuries might make sense. If you have any questions or comments about this, please shoot me an email. I'd love to hear from you!
I came across something this week that I wanted to share with you, especially if you invest in municipal securities. The Municipal Securities Rulemaking Board, the MSRB, is producing a weekly summary of COVID-19 related disclosures. It's based on primary offering and continuing disclosure data since January that state and local governments submit to the MSRB on their electronic platform.
The summary provides a high-level look at the pandemic's effect on municipal finances. In addition, the MSRB has also aggregated the information into a spreadsheet listing all disclosures filed by municipalities over the past few months. And the spreadsheet also has links to the disclosure documents. This makes it really easy to sort and cross-reference the MSRB data with a list of your muni bond positions. If you're interested in reviewing any disclosures that might have been filed by your bond issuers, it's a great resource, and I'll put a link to it in the show notes. Check it out!
So, let's get into our main topic for today as we continue our series examining residential mortgage-backed securities. I covered some of the basics in the previous episode, and we began to discuss the concept of prepayment.
In the last episode, you'll recall that a prepayment is defined as any unscheduled payment of principal on a mortgage security. And we talked about situations where borrowers refinance their mortgage, or moved and sold their house, or made additional principal payments. These are all examples of prepayment. And it's what's referred to as voluntary prepayment, meaning that the borrower is voluntarily making those additional principal payments back to you for some reason, whether it be a refi, or a sale, or just additional curtailments.
But there is something that I want to point out as well that’s referred to as involuntary prepayment. This is a situation where the borrower is unable to make the payments and the property goes into foreclosure. When that happens, the loan is going to be removed from the mortgage pool that it's in, either by Fannie Mae, Freddie Mac, or Ginnie Mae, whatever. And the guarantee kicks in. Well, what that means is that you, as an investor, are made whole at par. So you get your principal back, but it's at par.
So you're covered in terms of the credit risk, so to speak, but it's still a prepayment. And so it's important when we think about prepayment in mortgage securities to consider both interest rate-driven behavior, which would be voluntary prepayment in many cases, versus credit-driven prepayments, which happen in the case of a foreclosure or an involuntary prepayment.
So with all this prepayment going on, what's the big deal? Well, it creates something that we call prepayment risk for investors, which is the risk that your principal is going to be returned to you sooner than was expected. Why is this important? Well, there's a few reasons. First of all, there's an opportunity cost. Your principal is being returned back to you. And it's resulting in uninvested funds and lost interest income - you're earning interest on that, it was an earning asset - and it's come back to you.
The second reason is that since most prepayment is interest-rate driven - think about refi activity, for example - prepayment funds are going to likely be reinvested at lower yields than the original investment. You put the money to work, interest rates drop, borrowers put their money back to you in the form of a prepayment, you've got to reinvest, but it's a lower interest rate environment.
And then the third reason is the effect of prepayment risk on the amortization of any price premium and its impact on income and yield. This is an accounting thing, but it's important to keep in mind and it's important to understand. So let me give you an example, it's probably the easiest way to explain. I go out and buy a mortgage security, and I pay a premium for it, I pay 103 for the bond. Now that premium is going to be amortized over the life of the bond. That's what bond accounting is going to do.
Now keep in mind, if prepayments were to increase, then you're going to be required to amortize that premium more quickly because the life of the bond has been shortened. And so, from an accounting perspective, that premium has to be amortized more quickly. And that amortization is going to be a direct offset against the income received from the bond. So, if you've got prepayments happening, and you're forced to amortize that premium more quickly, the net result is that your income on that bond is going to be reduced.
Is it possible that prepayment amortization could eat up a lot of your income? Absolutely! Could it totally offset your income? In other words, the amount of income you earn totally is eaten up by whatever amortization you're required to do due to prepayments? Yes, that would mean you'd be in a zero-return situation. What happens if the prepayment amortization is greater than the income produced by the bond? Is that possible? Yes, it is. And that creates a negative return. You could have a bond that is giving you X amount of interest income during the month. But if the amount of prepayment happens, that increases the amortization you have to do such that it's greater than the income that the bond is producing, then you will end up with a negative return, a negative yield, so to speak, on your investment. So, you can see the importance of understanding and measuring and managing the prepayment risk on the bonds in your portfolio.
Are there circumstances where prepayment could be a good thing? Sure, there could be if you own a mortgage security that you purchased at a discount to par and not at a premium. Under those circumstances, instead of amortizing the premium, you're now accreting the discount back toward par. And in those situations, higher prepayment would require you to speed up your accretion, which would be a pickup in terms of your overall return.
When it comes to measuring prepayment, there are two primary metrics that you'll see as you're looking at various bonds, so let's examine both of these. The first one is known as the Conditional Prepayment Rate, or it's abbreviated as CPR. CPR assumes that a portion of the mortgage pool's principal is prepaid each month for the remaining life of the bond. It's a constant. It's based on the historical performance of the mortgage security, and it's expressed as an annual percentage. So as an example, if you saw a bond and the prepayment speed that was being applied was 10 CPR, what that means is that 10% of the current outstanding loan balances are expected to pay off in the next 12 months.
The higher the CPR, the more prepayment that is expected. That means that the life of the bond will be shorter. So, if you see 10 CPR versus 20 or 30 CPR, you can expect a shorter average life, a shorter duration on your mortgage security with the higher prepayment speeds. Now is it possible to have zero CPR meaning you're just going to get your scheduled payments? Sure, but it's more likely you're going to experience some level of prepayment over time. The industry standard is kind of considered to be 6 CPR. That is the low when we're looking at mortgage securities.
Now, a second somewhat related prepayment speed that I want to touch on briefly is something that's used with adjustable-rate mortgages, or ARMs, and that's called CPB. Now let's take a step back and review hybrid ARMs for a minute. These are mortgages that have a fixed payment period for a certain number of years. It might be three years, it might be seven years or 10 years, for example, where the rate on the mortgage pool is fixed. And then once it hits that reset period, at the end of the 3, 5, 7, or 10 years, it becomes a floating-rate security priced off of Treasury. There’s still some out there priced off of LIBOR, although that's going to be going away.
But it's important to keep in mind that the prepayment behavior of this type of a bond is going to be slightly different than a fixed mortgage rate security. And so, a CPB assumes that there's going to be a constant prepayment rate like CPR during the fixed period. But it also assumes a full payoff, a balloon payment - that's the “B” - a balloon payment at the reset date. If you're investing or evaluating hybrid ARM securities as part of your portfolio, it's going to be important to remember to use this metric when you're looking at the prepayment structure or the prepayment behavior of a hybrid ARM.
Now, the second prepayment speed or model that you'll see when you're looking at mortgage securities, is what's referred to as PSA. PSA stands for the Public Securities Association, and this was the group that developed this prepayment model back in 1985.
For mortgage-backed securities, the model takes into consideration that there is a variance of principal prepayment patterns over time. If you think about it, if somebody goes and takes out a mortgage, the likelihood that they're going to refi, for example, is probably going to be pretty low in the earlier years. But as time goes on that probability increases.
Well, PSA assumes that prepayment rates are lower early in the life of a mortgage pool, and then they gradually increase as the mortgages become more seasoned. The standard model and the assumptions for this, and it’s referred to as 100 PSA, or 100% of the model.
So the standard model assumes the following. We begin with a prepayment rate of 0.2% or 0.2 CPR in the first month, and then the rate is going to increase by .2% each month going forward until month 30. And then it reaches 6%, and at that point, it levels off, and it stays constant going forward. So those parameters define 100 PSA, or 100% of the model. Any variations from that model are expressed as a percentage of the model. So you might see a prepayment speed of 150 PSA, and that's assuming 150% of the model and its assumptions, or 220 PSA.
So, those are the two major ways that prepayment speeds will be measured on mortgage securities. Of the two, personally, I prefer CPR and there's a few reasons for that. First of all, PSA takes into account the prepayment behavior from the bond’s inception. But what about if you're looking at a seasoned bond? If I'm looking at a mortgage security that is already several years into its life, why would I be thinking about a ramping-up period like the one that the PSA model takes into account.
The PSA on a Bloomberg screen, which we'll talk about more here in a minute, is based on the street consensus for bonds with similar characteristics. So, when you see a prepayment speed expressed in PSA, it's looking at bonds that have similar characteristics, similar seasoning, similar coupon rates, etc. It's not necessarily representative of the bond that you're looking at. CPR is bond specific. It's looking at the principal behavior of that bond historically and is being used to calculate the annualized numbers that you see.
And then the last reason is that PSA is based on prepayment behaviors from 35 years ago. It's likely that borrower behaviors have shifted since then, but the model has never been updated. And so to me, these assumptions aren't necessarily in line with what are to be expected today. So, I think PSA is an interesting model, but for me, there's just too many moving parts for my liking in my efforts to evaluate mortgage securities. I prefer the simplicity of CPR, I can just lock that in, take a look at it and make a decision, and move on with my investment decision making.
So let's take a few minutes to discuss the different ways that you might see prepayment information presented to you, usually on a Bloomberg screen from a broker. And there's a few different ways that this might be served up to you.
The most commonly presented information is what's referred to as a Bloomberg yield table. Bloomberg uses kind of abbreviations for their different screenshots. And so the yield table is referred to as the “YT.” The yield table, the basic yield table presents prepayment in PSA, it shows the yield, the weighted average life, and the duration behavior of a mortgagesecurity under different interest rates scenarios. Usually, it'll be shown as an up and down 100-, 200-, and 300-basis point scenarios, in addition to a base case.
The YT yield table is not my favorite as you might expect. First of all, it's providing the information in PSA, which as I said earlier is something I'm not a fan of. It's also based on street consensus, the prepayment speeds under different rates scenarios are based on a street consensus. And that's great, but it's not necessarily going to give you a fully accurate picture of the prepayment behavior. I can tell you there have been a number of times where I've looked at a bond, and in the base case, the assumed PSA is nowhere close to where this bond has been behaving in the last month or two. And so again, it's a street consensus based on general assumptions.
Now there are some alternatives, and you can ask for these when you're working with your broker in an effort to get better information. The first one is what's referred to as a YTR screen. That's a yield table that is going to present the information in CPR, which we talked about earlier. The YTR screen is totally customizable. You can enter whatever prepayment speed you like in each column. If you want to see slow prepayment speeds, 6 CPR, 8 CPR, 10 CPR, you can do that. If you want to see faster prepayment speeds 20, 30, 40, 50 CPR, you can do that, as well. And you can get the screen that will show the same type of information in terms of yield, weighted average life, and duration under each of the prepayment scenarios.
And then a third yield table, and actually one of my favorites, is called the YTH screen. And this is a yield table that is based on historical CPR for the bond that you're looking at. And so what this will present is a series of columns where each column will give you the prepayment speed based on the previous one month, the previous three months, the previous six months, 12 months, and the lifetime of the bond. And so it's based on the actual performance of the bond and it will give you a look at how this bond has behaved based on its actual historical data. So I like using that as one of my go-to’s, with occasionally throwing in a YTR screen to give me some additional prepayment speeds at CPR when I'm evaluating a bond.
Something that's been getting a little more attention recently, at least from the brokers that I work with, is a yield table that is based on Bloomberg’s BAM model. This is a model that was originally created by Barclays years ago and was used in managing the Barclays indices. And this model was acquired by Bloomberg several years ago.
The BAM model projects the behavior of the loans within the mortgage pools, and it will display different interest rate scenarios like you'd see on a PSA yield table. So you'll see up and down 100, 200, and 300. But it expresses it in CPR, which I like. The model also takes into account refinancing behavior, it takes into account cash-out refi activity, curtailments, involuntary prepayments - we talked about those earlier - and also considers things like loan size, loan to value, FICO score, servicers, geography, etc. In determining the projected prepayment speeds, it's really quite a robust model. And like I said, brokers are starting to show this one a little more frequently.
If you're interested in seeing one, you can ask your broker to give you a YT BAM screen, YT B-A-M screen, and you at least have a chance to look at it. I think it's a good one to have in addition to some of the other yield tables I mentioned. As I've been moving forward here over the last few months, my go-to's have been the YTH, the YTR, and the YT BAM.
Now one thing to keep in mind with the BAM model that I have found, and this is based on a conversation I had with a colleague recently, is that it isn't necessarily accurate with brand new, newly created mortgage pools. And the reason for that is that if Bloomberg hasn't yet received the data on the actual underlying loans, they have to make some general assumptions. And at that point, the usefulness of the model really has no basis in reality. Once they have the loan data, they can provide updated information. But if you're looking at new newly issued bonds, you'll want to make sure on a BAM model that it's something you probably don't pay as much attention to. So just a quick hint for you on that.
Now that we've covered what prepayment risk is, and the ways that you'll see it presented to you in a Bloomberg screen, how do you manage it? How do you manage prepayment risk exposure? Well, let's start by talking about the factors that you don't control. First of all, you don't control borrower behavior. Prepayment risk presents a classic case of optionality. And what I mean by that is that the borrower in a residential mortgage has the right to prepay, and the lender or the investor has the obligation to accept the cash flow. That's just the nature of the beast. And so, borrower behavior can't be controlled. But understanding borrower behavior is critical to managing prepayment risks, so we'll come back to some of that here in a second.
Another factor that you have no control over is interest rates. A third factor that you have no control over are credit events, they're uncontrollable. Now, when we said this before when considering prepayment risk, most of the focus is on interest rates and what's happening there. But again, in the event of a default, the principal on that loan is going to be returned by the agencies to you, the investor, at par. And these unscheduled involuntary principal payments act the same as rate-driven prepayments with respect to price amortization, or accretion in the case of a discount bond.
So enough about the things that you can't control in your mortgage securities, let's talk about what you can control. The first thing you can control is the coupon rate on the mortgage pool. The coupon rate directly affects the price of the bond, whether the bond is trading at a premium, or par, or a discount. A higher coupon is going to trade at a higher price, and a lower coupon at a lower price. And so, depending on where you're looking for mortgage securities, the coupon rate will have an impact on the price that you pay for the securities.
Another factor that you can control, and I consider this to be the most important factor, is the collateral in the underlying loans in the mortgage securities. Something that I tell people all the time is to “know the loans that you own.” By taking a little time to understand the underlying collateral in your mortgage-backed securities, you can help mitigate your prepayment risk exposure. I have found it helpful when considering premium bonds. It's made it easier to accept higher premium prices under certain circumstances. Now there are a number of factors to think about. So let's dive in!
First of all, is considering new versus seasoned loans. And with new, you'll hear it referred to sometimes as TBA which stands for To Be Announced versus seasoned paper meaning loans that have been out and paying down for a period of months. My preference is to avoid TBA paper and to purchase seasoned paper. Why wouldn't I do a TBA paper? Well, I look at TBA a little differently, TBA as I said earlier means “to be announced.” To me, TBA means “truly blind acquisition.” And the reason I call it that is that the collateral in a TBA pool is unknown until the settlement of the pool, so you won't know what you're getting until the pool is pulled together at the very end of the building process. It's kind of a grab bag if you will. Now it's cheaper in price. But the prepayment behavior can't be determined ahead of time because you don't know what you're getting.
The other thing too is that while TBA is normally looked upon as new production, that's not always the case. There are existing bonds that are considered “TBA-eligible,” meaning the characteristics are acceptable for being delivered into the new TBA security. And these can be potentially riskier bonds in terms of prepayment, and you just don't know what's going to be added and you have very little control of prepayment risk with TBA bonds as a result.
Historically, new production pools are going to prepay slowly at first like we discussed with the PSA model, but then ramp up over time. And so until you have some seasoning, you're not really going to understand how this bond is going to behave. Instead of TBA bonds, you could consider other non-TBA-type bonds to help you understand and mitigate your prepayment risk.
So, let's talk about some of these non-TBA pool types. Now, one thing that I do want to note here is that these non-TBA bonds generally carry slightly higher dollar prices. But I think the payups are offset by the pool characteristics and the potential for lower prepayment risk. So to me, it's paying up for a little bit of insurance, and I'm comfortable with that.
So, the first type I want to talk about is what is referred to as loan balance pools. These are pools that have a maximum dollar amount that are capped. For example, you'll see pools with a maximum loan size of $85,000, or $110,000, or $150,000. These pools have a lower propensity to prepay. And the reason for that is that if a borrower has a very small balance on their mortgage, they're less likely to want to go out and refi and spend the money to get the mortgage refinanced.
These type of bonds, these loan balance pools, exhibit relatively steady prepayments, over time. And one thing to keep in mind is that the higher you go in the loan balance type - so if you go from $85,000 to $110,000 to $150,000 to $175,000, for example - the more your mortgage-backed security is going to act like what I would call regular paper because you're getting into larger balances.
Another type of non-TBA security are referred to ashigh loan-to-value, or HLTV, bonds. These are borrowers with a high loan-to-value percentage and, generally speaking, they are less likely to refinance, which again helps to lower your prepayment risk. Now, there is still some potential for credit-related prepayment, which we mentioned earlier. So that's something else that you'll have to take into consideration.
A third type is referred to as high investor percentage pools. There are certain mortgages where instead of the property being occupied by the owner, they are using it as an investment property. The underwriting process for these types of properties is generally a little more detailed, and there's a lot more work involved. And so, for someone in that situation, again, they're a little less likely to prepay under those circumstances.
Now, there are some other factors to keep in mind when we're talking about the collateral that you're looking at. One is the loan count on your mortgage security. And what I mean by that is the number of loans in the mortgage pool because that can affect the prepayment behavior of your security. If you have a security with a lower loan count, and you have one or two loans pay off, it's going to create these volatile, choppy prepayment speeds over time rather than the smooth behavior that you might expect to see. And so, this is something to keep in mind if you're looking at lower loan counts on your mortgage pool.
Another area to consider is geography. Not all states act the same with respect to prepayment speeds. Some states pay faster or slower than the overall average. A couple of examples here would be the state of California, where historically prepayment speeds have been much higher than the national average. On the other hand, New York or Florida loans tend to prepay slower for a couple of different reasons. But it's important to evaluate the geographic mix in your pool because it can be helpful in managing your prepayment risk. The other thing that's important is diversification and making sure that you're not purchasing bonds that create a lot of loan concentration for you based on the geography.
And then another area that I want to mention are mortgage servicers. The mix of mortgage servicers within your mortgage security can influence mortgage pool prepayment speeds. Some servicers are historically more prone to refinancing activity and therefore more prepayment. Think Quicken, for example. Non-bank servicers have generally exhibited a higher propensity to refi.
So as you can see, the underlying collateral plays a critical role in the behavior of a mortgage pool, and taking a little time to review the collateral composition is well worth it. Now, how do you do that? Well, there are some ways you can get that information to at least get a better understanding, and that is to use Bloomberg’s collateral composition screens. The abbreviation for those are the CLC screens, and they provide a variety of the data like we just discussed in terms of geography and owner-occupancy, and so much more information. And these CLC screens are something that you can request from your broker as part of your due diligence if you don't have a Bloomberg terminal.
We've spent a lot of time discussing prepayment risk in this episode and how to mitigate your exposure to it in your investment portfolio. But there's another risk that's just as important and I want to spend a little time discussing it, and that is extension risk. Extension risk is the risk that your principal will be returned to you more slowly than you expected. This is the flip side of prepayment risk, where you're worrying about your principal payments coming back to you more quickly.
In this situation with extension risk, your prepayments slow down, and your principal comes back to you more slowly. The result is that you end up with a bond that has a longer weighted average life and duration. So, it's just as important to check your bonds to see how they behave under slower prepayment speeds, not just faster ones when you're doing your due diligence, and bond pricing will influence your risk exposure and your collateral decisions.
If you're looking at a premium bond, you're probably going to be more focused on prepayment risk. On the other hand, if you've got a bond that's trading at a discount, the bigger risk there is not prepayment risk, but extension risk. And so, you'll want to factor that in, as well.
Wow! we've covered a lot of territory today. I hope you found this helpful. And next time, we're going to go one step further beyond mortgage securities, we'll be discussing collateralized mortgage obligations, or CMOs, how they're structured, and how they can be used to help manage prepayment and extension risk.
If you have any questions regarding anything that I covered today, please drop me a line at chris@bondinvestmentmentor.com. I'd love to hear from you! If you have any comments on today's topic or any topic suggestions for future episodes, that would be great! I've already received a number of topic ideas and I thank you for submitting those already.
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If you're looking for more information, please feel free to check out the website, BondInvestmentMentor.com, where you can find articles, tips, and resources to help you as you manage your investment portfolio. You can also catch up with me on the socials. You can connect with me on LinkedIn at “Christopher Nelson CFA” and on Facebook at “Bond Investment Mentor” I'd love to hear from you and begin a conversation! I look forward to catching up with you soon, next time CMOs. Thanks for stopping by have a good one!