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The Short Answer

Homing In on Mortgage-Bond Types

We explain the difference between residential and commercial issues, and agency and nonagency issues.

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Question: I know there are several different types of mortgage bonds. Can you explain what they are?

Answer: Like most bonds, a mortgage-backed bond is a type of debt security in which the bondholder essentially finances a loan in exchange for periodic interest payments and, ultimately, a return of principal. But unlike, say, a government bond, in which the entire loan amount goes to a single borrower--such as the federal, state, or local government--these bonds are backed by baskets of loans, each made to purchase or build property, that have been packaged into a tradable security. These are known as mortgage-backed securities, or MBSs. In their simplest form, the mortgage pass-through, as the borrowers pay off principal and interest, these cash flows are passed on to the bondholder.

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Adam Zoll does not own shares in any of the securities mentioned above. Find out about Morningstar’s editorial policies.