Question: The MZ Mortgage Company is issuing a CMO with three tranches. The A tranche will consist of $40.5 milliion with a coupon of 8.25 percent. The B tranche will be issued with a coupon of 9.0 percent and a principal of $22.5 million. The Z tranche will carry a coupon of 10.0 perecent with a principal of $45 million. The mortgages backing the security issue were originated at a fixed rate of 10 percent with a maturity of 10 years (annual payments). The issue will be overcollateralized by $4.5 million, and he issuer will receive all net cash flows after priority payments are made toeach class of securities. Priority payments wll be made to the class A tranche and will include the promised coupon, all amortization from the mortage pool, and interest that will be accrued to the Z class until the principal of $40.5 million due to the A tranche is repaid. The B class securities will receive intereest only payments until the A class is repaid, and then will receive priority payments of amortization and accrued interest. The Z class will accrue interest at 10 perecent until both A and B classes are repaid. It will receive current interest and principal payments at that time.

a. What will be the weighted average coupon (WAC) on the CMO when issued?

b. What will be the maturity of each tranche assuming no prepayment of mortgages in the pool?

c. What will be the WAC at the end of year3? Year4? Year 8? d. If class A, B, and Z investors demand 8.5%, 9.5%, and 9.75% YTM, respectively,at the time of issue, what price whould MZ Mortgage company ask for each security? How much will the compnay receive as proceeds from the CMO issue? e. What are the residual cash flows to MZ? What rate of return will be earned on the equity overcollateralization?

d.If class A, B, and Z investors demand an 8.5 percent, 9.5 percent, and 9.75 percent yield to maturity, respectively, at the time of issue, what price would MZ Mortgage company ask for each security? How much will the company receive as proceeds from the CMO issue?

e. What are the residual cash flows to MZ? What rate of return will be earned on the equity overcollateralization?

f. Assume that the mortgages in the underlying pool prepayat the rate of 10 percent per year. How will your answers in (b)-(e) change?

g. Assume that immediaately after the securities are issued in case (f), the price of all securities suddenly trades up by 10 percent over the issue price. What will the yield to maturity be for each security.