Mortgage Cash Flow Obligation (MCFO)
What it is:
How it works (Example):
An MCFO pays interest and principal payments at a specified rate similar to a bond. Monthly payments from a pool of underlying mortgages are bundled together and then used to make principal and interest payments on the MCFO. The MCFOs are unsecured and are issued in a range of classes, or tranches, that vary in risk.
Why it Matters:
It is important not to confuse MCFOs with collateralized mortgage obligations (CMOs). The two securities function in a similar manner, but CMOs have direct liens on the underlying mortgages (meaning the underlying mortgages are collateral for the CMOs). MCFOs are simply a contract -- MCFO owners have no legal rights to the actual underlying mortgages, meaning that all else being equal, MCFOs are riskier than CMOs.