ShmoopTube

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Finance a la shmoop what is a collateralized mortgage obligation or

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CMO all right people well this is a GMO and this is a CMO yeah it's a bunch of

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mortgages in one investment vehicle pot like mortgage Stone Soup not nearly as [Mortgage stones in a bowl of soup]

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exciting is that that man-eating plant over there

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so yeah just a bunch of mortgages that are packaged together when banks and

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investors package mortgages together well they can treat them like they're a

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big fat indexed bond fund because these groups of mortgages while they pay

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interest ie the interest comes from the people who are actually paying off their

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mortgages so why would you collateralize a mortgage obligation anyway answer risk

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by packaging lots and lots of mortgages together the theory was that well as a [CMO boxes on a conveyor belt]

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whole they would create a much less volatile environment than the former

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alternative of having tens of thousands of individual mortgages many of which at

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any given time were you know in do rest as people were dead beating and not [Man playing video games]

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paying what they promised to pay back right well collateralizing this group

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meant simply placing all of them into one investment vehicle that could be

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bought and sold as if it were in ETF or individual closed end fund but Wall

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Street being Wall Street where greed is good until it's not abused the notion of [Boxing gloves punch collateralized]

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collateralized mortgages and actually applied the notion of collateral against

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them pledging as collateral the equity in these mortgages or packages of

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mortgages and then borrowing against them so it's like leverage on leverage,

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highly volatile and this is sort of like the brilliant idea of the fraternity [Man walking along]

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social chairman sending the pledges to get graham crackers marshmallows and

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chocolate when he sees his you know couch is on fire yeah like why wouldn't [People carrying snacks and a couch on fire appears]

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he just put it out like what was he imbibing there all right well in fact

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this is more or less what happened in the mortgage meltdown of 2008 and 9 and

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it was helium inside of the couch that exploded in the form of many of these [Helium explodes on a couch]

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mortgages becoming insolvent and as one mortgage went bad

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well it caused a chain reaction of panic up and down the economic food chain

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which resulted in the near bankruptcy of the United States financial system

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basically the people who pulled together these CMOS forgot what the O stands for [Man walking along the street and plant eats him]

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oh dear, oh my

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