CHARACTERISTICS OF MORTGAGE LOANS AS INVESTMENTS

Because of these traditional characteristics, the government of Canada introduced two investment options – National Housing Act Mortgage-Backed Securities (MBS) and Canada Mortgage Bonds (CMBs) – to encourage individual investment in mortgages.

Uniqueness

The risk associated with any particular mortgage loan is dependent upon a unique set of characteristics:

• the characteristics of the borrower who has promised to repay the loan;

• the characteristics of the interest in land pledged as security; and

• the specific terms of the mortgage document itself.

Liquidity

-As mortgages tend to be more difficult to trade than bonds, mortgage investments are said to be illiquid compared to bond investment

-In the past, there has been very little trading of existing mortgages among investors (i.e., a weak secondary market).

-Recently, the use of mortgage default insurance, shorter contractual terms on mortgages, and the introduction of new investment options have increased the liquidity of these investments.

Reinvestment Problem

-Since large investors have many mortgage investments, they can reinvest the total of all the monthly payments received into new mortgage loans.

-The small investor with only a few loans may find that they are only able to reinvest the mortgage payments in a lower interest rate investment such as a savings account.

-one of the major reasons that the mortgage market is comprised of a small number of small investors, a few medium-sized participants, and a number of large financial institutions.

Administration

-Mortgage lending involves a great deal of initial and ongoing management.

-appraisal, legal work, a frequent survey of the property, and the gathering of other specialized information.

-Large investors are, again, in a better position since they have economies of scale2

Capital Cost

-large capital outlay an investor requires to participate in the market

-Diversification within classes of investments allows the investor to protect against losing from default situations but may prevent their direct participation in mortgage investment.

Mortgage-Backed Securities

-pools of amortized insured residential mortgage loans that are converted into securities, then marketed to investors in small individual units

-National Housing Act Mortgage-Backed Securities (NHA MBS) are comprised of pools (groups) of amortized residential mortgages insured by the Canadian Mortgage and Housing Corporation (CMHC) under the National Housing Act.

-investors can choose the category:

• exclusive home owner;

• multi-family;

• social housing (such as co-ops and seniors residences); and

• mixed (a combination of any of the three categories).

- issued by financial institutions that are already operating as approved lenders of NHA-insured mortgages, such as: banks, trust companies, insurance companies, loan companies, credit unions, and caisses populaires

- gives investors an undivided interest in a pool of NHA-insured residential mortgages that are secured by the value of the underlying real estate.

-timely payment to the investor of principal and interest is guaranteed by CMHC

-is paid to investors monthly by the Central Payor and Transfer Agent (CPTA)

-attractive yields

-the ability to trade NHA MBS certificates, Registered Retirement Savings Plan (RRSP), and Registered Retirement Income Funds (RRIF) eligibility.

Canada Mortgage Bonds (CMBs)

-in 2001, CMHC launched this as a new investment product

-to improve the supply of low-cost mortgage funds in Canada and to provide the mortgage market with an alternative and competitive source of funds

-allows institutional investors and individuals to invest in Canadian residential mortgages through easily tradable investments.

-through CMHC, the federal government guarantees the timely payment of interest and principal on the CMB.

Mortgage Investment Corporations (MICs)

-an alternative class of mortgage investment.

-Investors purchase shares in the MIC and the pooled capital is invested in mortgages secured by Canadian real estate.

-over 100 MICs in BC with anywhere from a handful of investors to several thousand investors.

-The available capital of each fund varies dramatically