The following article is reprinted from the November, 1996 issue
of On the Edge, the Interactive Data Fixed Income Analytics bimonthly newsletter.
Valuing Mortgage Loan Portfolios in BondEdge
Teri Geske
Senior Vice President, Product Development
The concepts used by portfolio
managers to value mortgage-backed securities are directly applicable to whole loans that
commercial banks and thrifts originate and hold as assets. Although many bank loan
departments are not familiar with the valuation tools commonly used by investment
managers, some banks are starting to use BondEdge to analyze their whole loan inventory.
This article describes how one of our larger bank clients with a strong mortgage
origination unit is using BondEdge to value and monitor a portfolio of approximately
75,000 fixed rate and adjustable home loans:
First, an external database program (such as Microsoft Access) is used to combine the
individual mortgages into pools of loans with similar characteristics. For example, fixed
rate mortgages are aggregated by coupon rate, remaining months to maturity, origination
year and type (30 year, 15 year, 5/7 year balloons). ARMs are aggregated by reset
frequency, underlying index, lifetime and reset cap levels, etc. A portfolio of 75,000
individual loans is condensed to approximately 700 pools, and each pool is assigned a
fictitious CUSIP, e.g. all fixed rate, 30 year loans with a coupon of greater than 7.25%
but less than 7.75% with a remaining maturity of 320 to 340 months might be assigned to
the CUSIP, "F3075330" where F=Fixed, 30=30 year amortization, 75=7.5% WAC,
330=330 month WAM.
Using BondEdge's generic Import File format, the fixed rate pools are imported as a
portfolio of pool-specific mortgages with the par value equal to the total amount of the
loans in each pool (a collateral code is also required in the import file - please consult
the User Manual or your Interactive Data Fixed Income Analytics Consultant for details). Adjustable Rate pools are imported
using the ARM import file format, with the par value equal to the amount of adjustable
rate mortgages in each pool. Both the fixed rate and adjustable rate pools are priced
using the BondEdge pricing method for these securities. Fixed rate pools are OAS priced, where
the OAS is derived from prices of TBA mortgage pools with similar characteristics. ARM
pools are priced using the Effective Margin matrices which are updated based on TBA prices
for 1 year CMT, 6 month LIBOR and COFI-based ARMs. Prepayment speeds can be based on the
bondEdge Prepayment Model, or selectively modified using the PSA Matrix for fixed rate pools,
or ARM Matrix for adjustables. As originations and paydowns cause the number of loans in
the various pools to change, the portfolios are reimported using the updated par values.
The master portfolios which contain all of the fixed and adjustable rate pools can be
segregated into smaller subsets of loans using the Portfolio Browse scanning function. For
example, the Scan criteria can be used to create a sub-portfolio of all fixed rate pools
with a WAM between 360-300 and a WAC from 8.00%-9.00%. Once the desired portfolios have
been created, all of BondEdge's reporting and simulation tools can be used to analyze the
profile of the bank's loan inventory, including duration, convexity, sensitivity to
parallel and non-parallel changes in interest rates, cashflow forecasts, prepayment
uncertainty measures, etc. The bank currently uses BondEdge reports and simulations in
ALCO presentations and is considering expanding this analysis to all types of loans,
including credit card pools, auto loans, etc.
As consolidation continues in the banking industry, portfolios of whole loans are often
"inherited" through acquisition. These techniques can be used to help establish
a market value for these assets and to evaluate the impact of the acquisition on the
overall loan inventory.
