Unit 12-Other Securities Products
principal payments are made in ___ increments to randomly selected bonds within a tranche
1000
Typical fee structure for a hedge fund:
2 and 20 2% management fee and 20% of the any profits
A structured instrument known as an asset-backed security would not be backed by A)loans on marginable securities. B)auto loans. C)credit card debt. D)student loans.
A
Which of the following is not a characteristic of hedge funds? A)They offer managers high fixed fees. B)They invest in private securities, real assets, derivatives, and structured products. C)They are privately organized and generally unregistered. D)They use leverage, short positions, and concentrated positions.
A
their value and income payments are derived from or backed by a specefic pool of underlying assets
ABS
If interest rates fall, which of the following statements regarding collateralized mortgage obligations are true? Prepayment risk will increase. Prepayment risk will decrease. Prices of each tranche will rise. Prices of each tranche will fall. A)II and III B)I and III C)II and IV D)I and IV
B
Which of the following accounts would a CMO Z-tranche be best suited for? A)A custodial account set up under the Uniform Transfer to Minors Act (UTMA) B)A professionally managed hedge fund specializing in real estate portfolio securities C)An IRA account for a middle-aged client who is willing to defer the income D)A joint account where the owners are looking to diversify and lower their risk
B
Which of the following statements regarding hedge funds is correct? A)Hedge funds are passively managed in an attempt to provide predictable returns for investors. B)Hedge funds are usually structured as a partnership. C)Hedge fund managers, like mutual fund managers, are compensated largely based on assets under management. D)Hedge funds are typically favored by inexperienced investors to hedge against losses they may experience as they gain investment savvy.
B
complex ABS. Do not specialize in any single type of debt. Their portfolios consist or non mortgage loans or bonds like leases, credit card debt, company's receivables, or derivative products
CDOs
pool a large number of mortgages, usually on single family residences. Issued by private sector financing corporations and are often backed by Ginnie Mae, Fannie Mae, and Freddie Mac historically higher rated
CMOs
Compared to U.S. government agency-backed CMOs, CDOs have A)greater liquidity. B)generally more secure collateral. C)less credit risk. D)less prepayment risk.
D
Can be used to hedge against interest rate risk
IOs
byproducts of POs. POS receive the principal stream from underlying mortgages, IOs receive the interest. IOs also sell at discount., and its cash flow declines over time, just as the proportion of interest in a mortgage payment declines over time. IOs increase in value when interest rates rise and decline in value when interest rates fall
IOs
Unsuitable for small or unsophisticated investors bc of their complexity and risks
PACs
have the least prepayment and extension risk
PACs
have targeted maturity dates they are retired first and offer protection from prepayment risk and extension risk (the chance that principal payments will be slower than anticipated) bc changes in prepayments are transferred to companion tranches, called support tranches
Planned Amortization Class CMOs (PACs)
protected agains prepayment risk but not extension risk
TACs
structure transfers prepayment risk only to a companion tranche does not offer protection from extension risk. These investors accept the extension risk and the resulting greater price risk in exchange for a slightly higher interest rate.
Targeted Amortization Class CMOs (TACs)
CMOs are not backed by the ____, they are corporate instruements
US gov
would not be suitable for an investor needing funds in a specefied amount of time, bc of the unpredictable nature of when payment will be received
Z tranche CMOs
All of the following concerning collateralized mortgage obligations (CMOs) are true except A)z-tranche CMOs carry the lowest prepayment risk. B)CMOs can be purchased and sold over-the-counter (OTC). C)CMOs are not backed by the federal government. D)most CMOs are backed by government agency pass-through securities held in a trust account
a The z-tranche is last in line when it comes to payouts. If prepayments occur at a rate faster than expected, this tranche suffers disproportionately more than the others.
one in which regular payments are made against the principal. This results in an investor's return consisting of principal along with interest. At the end of the term, the principal has been repaid Ex: mortgage
amortizing ABS
sometimes known as special purpose acqusition companies (SPACs) carry their own unique risks. they are companies without business operations that raise money through IPOs in order to have their shares publicly traded for the sole purpose of seeking out a business or combination of businesses
blank check hedge funds
issuers raise capitals by selling securities to the public without telling investors what the specefic use of the proceeds will be. , but might target a particular industry or sector
blind pool hedge funds
A collateralized mortgage obligation (CMO) makes an interest-only payment to an investor. This payment will be A)tax free. B)treated partly as ordinary income and partly as a tax-free return of principal. C)taxed as ordinary income. D)taxed as a capital gain if the underlying mortgage is prepaid.
c
Common theme among all ABS is the
contractual obligation to pay the debt
POs sell at a ____ to par
discount
mutual funds available to all investors that invest primarily in unregistered hedge funds gives non accredited investor access to hedge funds.
funds of hedge funds
form of a fund generally organized as a limited partnership with no more than 100 investors. This keep the funds from having to register with the SEC.
hedge funds
Most common strategies used by hedge funds:
highly leveraged portfolios short positions derivatives (options and futures) currency speculation commodity speculation investing in politically unstable international markets
CMOs are subject to
interest rate risk
one of the differences between mutual funds and hedge funds
lack of transparency (bc they dont have to register w the SEC)
requirement in a hedge fund that they must maintain the investment for a minimum amount of time
lock up provision
Bc of lower risk, PACs have ____ yields than TACs
lower
one backed by debt obligations without a fixed ending date. Ex: credit card CDO
nonamortizing CDO
principal is only paid to ___ at a time
one tranche
CMO pays principal and interest monthly, but only repays principal to
one tranche at a time
POs are affected by fluctuations in ___ rates
prepayment
Common CMOs
principal only interest only planned amoritization class targeted amortization class
the flow of income from underlying mortgages is divided into principal and interest streams and direct to the POs and IOs respectively. the income stream comes from principal payments on the underlying mortgages-both scheduled principal payments and prepayments. So entire FV is repayed
principal only CMOs (POs)
name of the hedge funds prospectus that generally contains less information
private placement memorandum
Risk of CMOs
rate of principal repayment varies prepayment risk extension risk (if interest rates rise they will have to hold investment longer than usual)
Before buying any CMO, the customer must sign a
suitability statement
pool of mortgages is structured into maturity classes called
tranches
CMOs yeild more than
treasury securities
Interest from CMOs is subject to
triple taxation
receives no payment until all preceding CMO tranches are retired. Most volatile CMO tranches
zero tranche CMO (Z tranche)