A mortgage backed security (MBS) that is stripped (split) into two components: principal only (PO) strips and interest only (IO) strips. The MBS derives its cash flows either from principal or interest payments on a basket of underlying loans. It allows investors to take different views on the same pool of mortgage loans (mortgage pool). Stripped mortgage-backed securities (SMBS) are classified into classes, each passes through only principal payments (PO strips) or interest payments (IO strips).
A stripped MBS is multiclass, pass-through, grantor trust securities created by splitting the principal and interest payments from the underlying mortgage-related collateral into two or more classes of securities. By such securities, investors can meet two different investment needs. First, this structure allows risk isolation (hedging), and also excess servicing can be stripped from base servicing on underlying loans which are then issued solely as interest-only (IO) bonds. Separated PO and IO classes can be recombined. Collateral can include MBS, uniform mortgage backed securities (UMBS), SMBS, and excess servicing (interest-only deal) for loans in MBS or UMBS.
SMBS are sensitive to interest rate changes as such fluctuations can impact prepayment speeds.
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