CFA Level I · CFA Level I Exam · Fixed-Income Securitization
In a sequential-pay collateralized mortgage obligation (CMO) with Tranches A, B and C, all principal repayments from the collateral, including prepayments, are most likely directed first to:
All principal payments, scheduled and prepaid, go first to Tranche A in a sequential-pay CMO until its balance is retired. Then Tranche B receives principal, followed by Tranche C. Principal is not shared pro rata, and the longest tranche is paid last.
- ATranche C, the tranche with the longest expected maturity
- BTranche A, until its principal is fully retiredCorrect
- CAll tranches in proportion to their outstanding balances
Explanation
In a sequential-pay CMO, tranches receive principal in order of seniority. Tranche A receives all scheduled principal and prepayments until it is fully paid, then Tranche B, then Tranche C. Pro rata distribution is not how sequential-pay structures work.
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