Collateralized Mortgage Obligation - CMO

Loading the player...

DEFINITION of 'Collateralized Mortgage Obligation - CMO'

A type of mortgage-backed security in which principal repayments are organized according to their maturities and into different classes based on risk. A collateralized mortgage obligation is a special purpose entity that receives the mortgage repayments and owns the mortgages it receives cash flows from (called a pool). The mortgages serve as collateral, and are organized into classes based on their risk profile. Income received from the mortgages is passed to investors based on a predetermined set of rules, and investors receive money based on the specific slice of mortgages invested in (called a tranche).

BREAKING DOWN 'Collateralized Mortgage Obligation - CMO'

Collateralized mortgage obligations are complex financial instruments. Each CMO tranche can have different principal balances, interest rates, maturities and repayment risks. They are sensitive to interest rate changes as well as changes in economic conditions, such as foreclosure rates, refinance rates and the rate at which properties are sold.

Investors in CMOs look to obtain access to mortgage cash flows without having to originate or purchase a set of mortgages themselves. Organizations that purchase collateralized mortgage obligations include hedge funds, banks, insurance companies and mutual funds.

The use of collateralized debt, such as collateralized mortgage obligations and collateralized debt obligations, has been criticized as a precipitating factor in the 2007-2008 financial crisis. Rising housing prices made mortgages look like attractive investments, but market and economic conditions led to a rise in foreclosures and payment risks that financial models did not accurately predict. Because CMOs were complex and involved many different mortgages, investors were more likely to focus on income streams rather than the health of the underlying mortgages themselves.

The first CMO was created by two banks, Salomon Brothers and First Boston, for Freddie Mac in 1983. 

RELATED TERMS
  1. The Great Recession

    The steep decline in economic activity during the late 2000s, ...
  2. Collateralized Debt Obligation ...

    An investment-grade security backed by a pool of bonds, loans ...
  3. Active Tranche

    A tranche of a collateralized mortgage obligation (CMO) that ...
  4. Super Floater

    A floating-rate collateralized mortgage obligation (CMO) tranche ...
  5. Calamity Call

    A call feature of a Collateralized Mortgage Obligation (CMO) ...
  6. Asset-Backed Security - ABS

    A financial security backed by a loan, lease or receivables against ...
Related Articles
  1. Insurance

    CDOs And The Mortgage Market

    These structured products contribute to keeping borrowing rates low.
  2. Investing Basics

    CMO vs CDO: Same Outside, Different Inside

    The concept of collateralizing and structured financing predates the market for collateralized mortgage obligations and collateralized debt obligations.
  3. Bonds & Fixed Income

    Introduction To Asset-Backed And Mortgage-Backed Securities

    In this article, we will go through the structure, along with some examples of ABS and valuation.
  4. Bonds & Fixed Income

    Profit From Mortgage Debt With MBS

    Mortgage-backed securities can offer monthly income, a fixed interest rate and even government backing.
  5. Insurance

    Behind The Scenes Of Your Mortgage

    Four major players slice and dice your mortgage in the secondary market.
  6. Bonds & Fixed Income

    Asset Allocation In A Bond Portfolio

    An investor's fixed-income portfolio can easily beat the average bond fund. Learn how and why!
  7. Mutual Funds & ETFs

    The 2007-08 Financial Crisis In Review

    If you don't know how the recession began, read on to learn more.
  8. Personal Finance

    The Fuel That Fed The Subprime Meltdown

    Take a look at the factors that caused this market to flare up and burn out.
  9. Investing Basics

    10 Habits Of Successful Real Estate Investors

    Enjoying long-term success in real estate investing requires certain habits. Here are 10 that effective real estate investors share.
  10. Investing Basics

    5 Types of REITs And How To Invest In Them

    Real estate investment trusts are historically one of the best-performing asset classes around. There are many types of REITs available.
RELATED FAQS
  1. Can small investors buy collateralized mortgage obligations (CMOs)?

    Collateralized mortgage obligations (CMOs), which are pools of mortgage-backed securities (MBS), are available to smaller ... Read Full Answer >>
  2. What's the difference between a collateralized mortgage obligation (CMO) and a mortgage-backed ...

    A mortgage-backed security, or MBS, and a collateralized mortgage obligation, or CMO, are different types of asset-backed ... Read Full Answer >>
  3. What is a Z bond in a collateralized mortgage obligation (CMO)?

    A Z-bond is the lowest tranche in a collateralized mortgage obligation (CMO). Z-bonds, also called accrual or accretion bonds, ... Read Full Answer >>
  4. Were collateralized mortgage obligations (CMOs) responsible for the financial crisis ...

    Many believe that collateralized mortgage obligations (CMOs) played a critical role in the 2008 financial crisis. Subprime ... Read Full Answer >>
  5. What's the difference between a collateralized debt obligation (CDO) and a collateralized ...

    A collateralized mortgage obligation, or CMO, is a type of mortgage-backed security (MBS) issued by an lender that handles ... Read Full Answer >>
  6. What is the difference between a collateralized mortgage obligation (CMO) and a collateralized ...

    Both collateralized mortgage obligations (CMOs) and collateralized bond obligations (CBOs) are similar in that investors ... Read Full Answer >>
  7. What is a tranche?

    "Tranche" is actually a French word meaning "slice" or "portion". In the world of investing, it is used to describe a security ... Read Full Answer >>
Hot Definitions
  1. Presidential Election Cycle (Theory)

    A theory developed by Yale Hirsch that states that U.S. stock markets are weakest in the year following the election of a ...
  2. Super Bowl Indicator

    An indicator based on the belief that a Super Bowl win for a team from the old AFL (AFC division) foretells a decline in ...
  3. Flight To Quality

    The action of investors moving their capital away from riskier investments to the safest possible investment vehicles. This ...
  4. Discouraged Worker

    A person who is eligible for employment and is able to work, but is currently unemployed and has not attempted to find employment ...
  5. Ponzimonium

    After Bernard Madoff's $65 billion Ponzi scheme was revealed, many new (smaller-scale) Ponzi schemers became exposed. Ponzimonium ...
  6. Quarterly Earnings Report

    A quarterly filing made by public companies to report their performance. Included in earnings reports are items such as net ...
Trading Center