BFB1001 Chap.5 Mortgages, Securitisation and Managed Funds
Mortgages, Securitisation and Managed Funds
Mortgages, Securitisation and Managed Funds follows household and investor cash through three linked structures. A level mortgage payment first covers interest on the opening balance and then reduces principal, so the interest share falls as the balance declines.
Securitisation transfers a pool of loans into a structure that issues securities supported by borrower repayments, broadening funding and reallocating loss priority without erasing underlying credit risk. Managed funds pool investor money into portfolios under a stated mandate, offering diversification and professional management while charging fees and retaining market exposure.
The chapter highlights amortisation, security, tranching, incentives, liquidity and net asset value per unit. The common method is to trace funding, repayments, claims and risks through every party rather than memorising institution names.
What this chapter covers
- 01
Mortgage amortisation
- 02
Interest and principal split
- 03
Loan securitisation
- 04
Pooling and tranching
- 05
Managed-fund diversification
- 06
Net asset value per unit
Worked example · free
Compute and interpret net asset value
- 1Subtract $1 million liabilities from $51 million assets.
- 2Divide $50 million net assets by 5 million units.
- 2Report NAV per unit of $10.00 and compare with any market quote.
Key terms
- Mortgage
- A property-secured loan commonly repaid through scheduled interest and principal payments.
- Amortisation
- Gradual reduction of a loan balance through scheduled principal repayments.
- Securitisation
- Pooling financial assets and issuing securities supported by their cash flows.
- Net asset value
- Fund assets minus liabilities, often reported per unit.
Mortgages, Securitisation and Managed Funds FAQ
Why does the interest part of a mortgage fall?
Interest is calculated on the opening balance, which declines as principal is repaid. With a level payment, less interest leaves more of each later payment available to reduce principal, accelerating the balance decline.
Does securitisation remove credit risk?
No. It reallocates exposure through pooling, payment priority and security design, while underlying borrower performance still supports investor cash flows. Correlated defaults, prepayment, servicing and market liquidity remain important.
What should I compare across managed funds?
Compare mandate, benchmark, risk, fees, liquidity and time period rather than relying on a past-return number alone. A fund can diversify issuer-specific risk while still moving with the broad market it is designed to hold.
What does mortgage security achieve?
Collateral gives the lender a claim on property if the borrower defaults, reducing expected loss relative to unsecured lending. It does not guarantee full recovery because property value, timing and enforcement costs can be adverse.
Why can securitisation weaken screening incentives?
An originator that sells most of a loan's exposure may bear less of the later default cost. Contract design, retained risk, standards and monitoring can be used to align incentives more closely.
What does a market premium to NAV mean?
It means investors pay more than current net assets per unit. Demand, expected management value or trading frictions may explain the gap, but neither the asset value nor the premium is guaranteed to persist.
How does an extra mortgage repayment affect later interest?
Extra principal reduces the balance used to calculate later interest, so the saving continues across remaining periods. The benefit should be compared with fees, penalties and the return available from other uses of cash rather than treated as a free immediate gain.
What does a senior securitisation tranche mean?
A senior tranche receives contractual cash before junior claims and generally absorbs pool losses later. Priority lowers exposure relative to a junior tranche but does not create certainty. Severe correlated defaults, structural problems or weak collateral can still reduce senior payments and market value.
Does diversification guarantee a positive fund return?
No. Diversification reduces concentration in particular issuers or assets when returns are not perfectly aligned, but broad market risk remains. A diversified portfolio can fall during a system-wide shock, and fees can cause it to trail its benchmark even when the strategy operates as intended.
Assessment move
Trace funding and repayments through each structure, naming who holds each claim and which risk remains. For mortgages, rebuild one amortisation line from opening balance to interest, principal and closing balance, then explain how the composition changes over time. Convert rate and payment frequency together.
For securitisation, draw borrowers, originator or pool, securities and investors; add funding arrows in one direction and repayment-supported distributions in the other. Discuss pooling and tranching as risk allocation, not risk elimination, and identify where screening or information incentives may weaken.
For managed funds, read the mandate before past returns, calculate assets minus liabilities before dividing by units, and compare any market price with NAV. Evaluate diversification, fees, benchmark and liquidity as a group. Finish each institutional answer with the transformation performed and the exposure retained, because those two ideas explain both the structure's value and its vulnerabilities.
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