Source: http://www.google.com/patents/US7698191?dq=6,757,682
Timestamp: 2016-02-10 16:49:54
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Matched Legal Cases: ['art 1', 'art 3', 'art 1', 'art 3', 'art 2', 'art 3']

Patent US7698191 - Data processing systems and method for creating efficient floater classes - Google PatentsSearch Images Maps Play YouTube News Gmail Drive More »Sign inPatentsA method for creating investment securities structured from interest-rate derivative and mortgage pool components is described. The method includes analyzing the risk elements of the derivative and mortgage pool components, structuring one or more classes of securities, at least one of which is backed...http://www.google.com/patents/US7698191?utm_source=gb-gplus-sharePatent US7698191 - Data processing systems and method for creating efficient floater classesAdvanced Patent SearchPublication numberUS7698191 B1Publication typeGrantApplication numberUS 12/003,478Publication dateApr 13, 2010Filing dateDec 26, 2007Priority dateSep 16, 1999Fee statusPaidAlso published asUS7340427, US7853501, US8112338Publication number003478, 12003478, US 7698191 B1, US 7698191B1, US-B1-7698191, US7698191 B1, US7698191B1InventorsRoss H. CornellOriginal AssigneeFederal Home Loan Mortgage CorporationExport CitationBiBTeX, EndNote, RefManPatent Citations (6), Non-Patent Citations (7), Classifications (13), Legal Events (2) External Links: USPTO, USPTO Assignment, EspacenetData processing systems and method for creating efficient floater classes
A pool of fixed-rate mortgages, by itself, can be undesirable as an investment because of the possibility of prepayments. A borrower on a residential mortgage generally can pay the balance of the loan at any time (“prepay”) without substantial penalty or with no penalty. If this happens, an investor in the mortgage pool must find an alternative investment for the amount prepaid. Moreover, mortgage borrowers are more likely to exercise their prepayment options at times when interest rates are low. Thus, the investor likely will have to reinvest the mortgage prepayments at rates of return less than the rate of return on the original investment.
The destabilizing effect of a mortgage pool's prepayments can be reduced by a variety of methods, including transforming part of the pool's cash flow into a floating-rate bond. A floating-rate bond is one with an interest rate that is reset periodically based on an index and that varies directly with changes in the index. When a floating-rate bond is carved out of a fixed-rate mortgage pool, the remaining cash flow has an interest rate that varies inversely with changes in the index. This remaining cash flow sometimes is called the companion inverse-rate bond. A commonly used index for floating-rate bonds and companion inverse-rate bonds is the arithmetic mean of the London interbank offered quotations for Eurodollar deposits with a maturity of one month (“LIBOR”). Typically, the rate is reset on a monthly basis.
The interest rate on a floating-rate bond usually has a minimum value or “margin” and a maximum value or “cap”. The margin and cap are set so that the floating-rate bond sells at or close to a price equal to the bond's principal amount (a price of “par”). Since the interest rate on a floating-rate bond is reset monthly to current interest rates, the floating-rate bond maintains its par value in the secondary mortgage market, unless the rate is constrained by its cap. This market value stability makes a mortgage-backed floating-rate bond suitable as a money market investment. Institutions have substantial sums that may be invested for short periods of time, provided the sums can be invested in instruments that will retain their value and are easily liquidated. These sums ordinarily are not invested in mortgage pools for the reasons discussed earlier. However, they may be invested in mortgage-backed floating-rate bonds. By and large, investors in money market instruments are indifferent to prepayments on the underlying mortgage pool because the prepayments easily may be reinvested on terms comparable to those of the original investment.
Traditionally, mortgage-backed floating-rate bonds were issued entirely by Real Estate Mortgage Investment Conduits (“REMICs”) formed under ��860A-860G of Title 26 of the United States Code (the “REMIC Rules”). Under the REMIC rules, fixed-rate mortgages were contributed to a REMIC pool as trustee and payments on these mortgages were allocated disproportionately to bonds issued by the REMIC, including floating-rate and companion inverse-rate bonds. As a practical matter, the kinds of disproportionate allocations required to transform fixed-rate mortgages into floating-rate bonds must be made under the REMIC Rules.
The present invention takes as its starting point the traditional REMIC floating-rate/inverse-rate structure. In this structure, the principal and interest cash flows from a pool of fixed-rate mortgages or mortgage securities (“mortgage assets”) are allocated dollar-for-dollar to the floating-rate (“FLT”) and inverse-rate (“INV”) bonds.
Interest payments received on the mortgage assets are allocated to the FLT and INV bonds based on their interest rate formulas. These formulas are derived so that every dollar of interest received will be passed through as interest on one or both of the bonds. Interest payments are calculated by applying the applicable per annum interest rate to the principal balance of the bond, as reduced from time to time. The FLT bond's interest rate increases as the reference index rises, while the INV bond's interest rate decreases. On a dollar basis, the two offset each other precisely—an increase in interest payments to either is matched by an equal decrease to the other. Chart 1 shows an example of the traditional REMIC FLT/INV structure.
Next, the derivative contract (a so-called “corridor exchange”) is added to this structure. Under this type of contract, Party A “swaps” interest payments at a fixed rate with Party B in exchange for interest payments at a variable rate within a relatively tight index corridor, or set of limits. For example, assume the FLT bond is Party A; it gives up interest (on its principal balance) at 0.35% to Party B, a financial institution. This effectively reduces the FLT bond's margin from 0.7% to 0.35%. Party B, in exchange, pays interest (on the same balance) to the FLT bond at a rate equal to:
As Chart 3 shows, the invention results in a FLT bond with the same interest rate formula as the traditional FLT bond (Chart 1) but with a higher principal balance. Therefore, its value is significantly increased. Under all market scenarios where this increase exceeds the reduction in value of the INV, the addition of the fixed-for-corridor exchange enhances the combined value of the FLT/INV bonds, increasing the efficiency with which the bonds are issued. In the present disclosure, classes of floating-rate bonds that are structured in this way are referred to as “efficient floating-rate classes” or “EFCs”, and series of securities that include EFCs are referred to as “EFC Series”.
Chart 3 also shows how investment trusts can be used to add corridor exchange payments to the FLT bond payments. An investment trust is a trust formed and administered under ��671-679 of Title 26 of the United States Code (the “Grantor Trust Rules”). In the illustration, the original FLT bond (Chart 2) is contributed to an investment trust and the trustee, as owner of the original FLT bond, enters into the corridor exchange as Party A. Since the Grantor Trust Rules allow securities to be created out of interest-rate derivative contracts, the trust may issue the FLT bond (Chart 3) that adds the corridor payments to the original FLT bond.
As disclosed herein, the EFC Series data processing systems consistent with the principles of the present invention can be divided into three modules generally corresponding to stages in the business process. The Risk Analysis and Planning Module includes the systems that are used interactively during the planning period for an EFC Series. After a plan is developed, the Deal Structure Module is activated to manage the process of preparing an EFC Series for issuance. The Deal Structure Module shifts operations to the Series Administration Module when the EFC Series is issued (“settlement”) and the Series Administration Module controls the ongoing administration of the EFC Series.
A Class may be issued directly to the public or may be issued by one Pool established by the Series and contributed to another Pool established by the Series (an “internal” Class). In case of an internal Class, payments received by the Class from the first Pool become part of the second Pool and thereafter may be paid to other Classes funded from the second Pool. In this manner, payments on the assets underlying a Series may be divided and combined in a variety of ways before finally being paid through to investors. In some cases, a Class may be established that represents an interest in a Pool with no assets (an “unfunded” Class). A Series may establish an unfunded Class so that assets can be contributed to the Series, funding the Class, at a later date.
EFA Class (line 1-32) represents ownership of EFA Class Pool (block 1-14). Since the assets of EFA Class Pool are IFA Class (line 1-25) and a position (line 1-23) in EFA Class Derivative Account (block 1-03), EFA Class owns both of these assets. IFA Class, in turn, represents a claim to certain payments from Single-Tier REMIC Pool A (block 1-11). These payments must come from Mortgage Asset Account A (block 1-01). Thus, an investor in EFA Class receives payments that combine payments from the interest-rate derivative of EFA Class Derivative Account with payments on the mortgages of Mortgage Asset Account A. By this method, an interest-rate derivative component and a mortgage component are integrated to create a new investment security—EFA Class.
In FIG. 2, the assets of the REMIC Pool (blocks 2-11 and 2-12) are, for example, $600,000,000 Freddie Mac Participation Certificates (“PCs”) with an interest coupon of 6.5% (row 2-41). A PC is a certificate representing ownership of a pool of underlying mortgage loans (block 2-01). Freddie Mac holds the underlying mortgages and performs such pool administrative tasks as collecting mortgage payments and enforcing remedies in the event of mortgage default. Administrative costs and expenses are deducted from interest payments received on the mortgages and the remaining interest is passed through on a monthly basis to the holders of the PCs at a “coupon” interest rate of 6.5%. Principal amounts received on the underlying mortgages also are passed through to PC holders on a monthly basis. Freddie Mac guarantees payment of principal and interest at the coupon rate on the PCs.
The REMIC Pool (blocks 2-11 and 2-12) creates bonds out of the PC cash flow by means of a three step disproportionate allocation process, sometimes called an engineering process. First, the REMIC allocates a portion of the PC cash flow (block 2-11) to a series of planned amortization classes (“PACs”). A PAC is a Class of bonds designated to receive principal payments according to a predetermined schedule. When principal payments on the PCs are received by the REMIC, it allocates principal to the PACs up to exactly the amount given by their predetermined schedules. The amount of principal received each month by the REMIC will vary because of prepayments on the underlying mortgages. However, the REMIC gives allocation priority to meeting the PAC schedules. Any variation in principal payments is reflected in the principal remaining to be paid by the REMIC to non-PAC Classes. The remaining PC cash flow sometimes is called the supporting (“SUP”) cash flow (block 2-12). In order to make the priority principal payments according to the PAC schedules, the REMIC must create the SUP cash flow to absorb the prepayment variations.
At the second step of its engineering process, the REMIC (blocks 2-11 and 2-12) subdivides the PAC cash flow (block 2-11, row 2-42) into sequential A, B, and C Classes (lines 2-31, rows 2-43, 2-44 and 2-45). Sequential Classes are Classes that receive payments in a prescribed sequence. A predetermined amount of the principal received by the REMIC is allocated to the sequential Classes as a group. However, rather than making these principal payments pro rata among the Classes, the principal is paid first to one, then another of the Classes in the prescribed sequence. In the case of sequential PACs, this sequence is reflected in their PAC schedules. In FIG. 2, principal payments are made first to A Class, then to B Class and finally to C Class. This step in the engineering process results in Classes with different terms or weighted average lives (“wals”). A Class is sold to investors that desire short-term investments, B Class to investors that desire medium-term investments and C Class to investors that desire long-term investments.
At the third step in its engineering process, the REMIC (blocks 2-11 and 2-12) allocates the SUP cash flow (block 2-12, row 2-46) between a floating-rate (“FLT”) Class, F Class (line 2-32), and its related inverse-rate (“INV”) Class, S Class (line 2-33). The SUP cash flow is reduced in value (in comparison to the value of the PC) because it receives much of the prepayment risk on the underlying mortgages. However, in this third step the interest on the SUP cash flow is allocated so as to form a money-market instrument, F Class, the value of which is not impaired by the high prepayment risk under most interest rate scenarios. This engineering step increases the value of the part of the SUP cash flow directed to F Class by increasing the likelihood that the payments on F Class will conform to investor expectations. Generally, this allocation reduces the value of the remaining SUP cash flow directed to S Class, but this reduction is more than offset by the increase in value of F Class.
At the time the REMIC (blocks 2-11 and 2-12) was created, F Class required a margin of 0.35% and a cap of 8.5% (row 2-61) in order to create the necessary par price (row 2-47). Thus, the interest rate formula for F Class is LIBOR +0.35% with a cap of 8.5%, and the interest rate formula for S Class (as explained below) is 3.25�(8.15%−LIBOR) with a minimum value (“min”) of 0.0% and a maximum value (“max”) of 26.4875% (row 2-62). The SUP principal cash flow is allocated $76,470,588 to F Class (row 2-47) and $23,529,412 to S Class (row 2-48). Since S Class absorbs additional prepayment risk allocated away from the PACs, and also absorbs additional interest-rate risk allocated away from F Class, the price of S Class is reduced to 97.00 (row 2-48). Nevertheless, the aggregate value of F Class and S Class is $99,294,117 which exceeds that of the SUP Class.
Under traditional floating-rate bond structures, when a FLT/INV Class combination is issued from a SUP cash flow, each dollar of SUP principal received is used to pay down the principal balances of the FLT and INV bonds, in each case in proportion to their balances. Interest payments are received on the SUP cash flow at a constant rate (“coupon”), frequently the same as the underlying PC coupon rate, and are passed through as interest on one or both of the bonds. The interest is allocated to the FLT and INV Classes based on their interest rate formulas, but the weighted average of these rates always is equal to the coupon rate.
(FLT Class principal/INV Class principal))�(FLT Class max−FLT Class margin−LIBOR); or (coupon/(max—coupon))�(FLT Class max−FLT Class margin−LIBOR);
The improved series execution shown in FIG. 3 is accomplished by dividing the spread between the interest rate coupon on the SUP cash flow and the max required for the FLT Class, into lower and upper ranges. The lower range is from 6.5% to 7.0% and the upper range is from 7.0% to 8.5%. The lower range is funded directly from SUP interest. The upper range is funded by purchasing a LIBOR corridor from outside the REMIC cash flow—the EFC exchange (lines 3-23 and 3-24). Since the high values of the FLT Class interest rate no longer must be paid with SUP interest, a greater proportion of the SUP cash flow may be assigned to the more valuable FLT Class. The EFC corridor used to fund the upper range is purchased with fixed-rate periodic payments from SUP interest and has a notional principal amount (“NPA”) equal to the declining principal balance of the new FLT Class, EF Class.
The Asset Pool Prepayment Model has access to a data base of historical values of prepayments by kind of asset in the issuer's All Systems Data Base (FIG. 4, block 4-26). The All Systems Data Base is a central repository for corporate wide data. It is external to the EFC Series System, but is accessed by the EFC Series System for data entry and retrieval. Users of the EFC Series System can input asset type and prepayment rate parameters interactively, and receive output projecting expected cash flow and comparing projections to selected historical values. Industry standard rates referred to as “PSA” rates commonly are input as prepayment parameters. Users can input interest rate scenarios interactively and examine their impact on expected cash flows. FIGS. 6-1 through 6-4 illustrate part of an exemplary, projected cash flow of a Mortgage Asset Account calculated by the Asset Pool Prepayment Model. FIGS. 6-1 to 6-4 constitute a single table which is properly viewed by placing FIGS. 6-1 and 6-3 side by side and FIGS. 6-2 and 6-4 side by side, with FIG. 6-2 beneath FIG. 6-1. FIG. 6-5 is a table explaining the notation and abbreviations used in the columnar headings of FIGS. 6-1 to 6-4.
The Series Issuance Process (block 8-01) functions together with the applicable fiscal agent (FIG. 4, block 4-25) to create the Classes. Most Classes are issued as book-entry securities through the Federal Reserve Bank (“FRB”) system or through The Depository Trust Company system. The process begins by assigning CUSIP numbers to the Classes to be issued by a Series. The Series Issuance Process generates an original issue file, CUSIP report and broadcast file for the Series. The original issue file contains the class level data required for Series issuance and is a base file for releasing the securities. The CUSIP report is forwarded to the CUSIP Bureau and the broadcast file is forwarded to the FRB or other fiscal agent.
Patent CitationsCited PatentFiling datePublication dateApplicantTitleUS5966700Dec 23, 1997Oct 12, 1999Federal Home Loan Bank Of ChicagoManagement system for risk sharing of mortgage poolsUS6070151Nov 29, 1995May 30, 2000Fibonacci CorporationSystem for the creation and collateralization of real estate mortgage investment conduit securitiesUS6208738Feb 14, 1997Mar 27, 2001Numerix Corp.Interface between two proprietary computer programsUS6321212Nov 24, 1999Nov 20, 2001Longitude, Inc.Financial products having a demand-based, adjustable return, and trading exchange thereforUS7340427Sep 18, 2000Mar 4, 2008Federal Home Loan Mortgage CorporationData processing systems and method for creating efficient floater classesUS20030074306Aug 16, 2001Apr 17, 2003David RiosMethod and system for managing a mortgage-backed securities indexNon-Patent CitationsReference1"An Investor's Guide to Mortgage-Backed Securities, IGMS," The Bond Market Association (retrieved from the Internet by a previous Examiner on Jan. 15, 2004).2"Interest Rate Derivatives Real-Time Pricing System Financial Engineering and Software Systems fo the Derivatives Market for Traders of Financial Derivatives Who Need Rapid Accurate Pricing," Layer Eight Systems (retrieved from the Internet by a previous Examiner on Jan. 15, 2004).3Boudoukh, "Pricing Mortgage Backed Securities in a Multifactor Interest Rate Environment: A Multivariate Density Estimation Approach," NYU, (Dec. 1996).4Cahill, "A Closer Look at Mortgage-Backed Securities," (May 1999).5Chen, "The Relevance of Interest Rate Processes in Pricing Mortgage-Backed Securities," Journal of Housing Research, vol. 6, Issue 2 (1995).6R. Pemberton, "Structured Notes" Cansco Investment Counsel Ltd. (retrieved from the Internet by a previous Examiner on Jan. 15, 2004).7Wheeler, Douglas S., "Evaluating Mortgage-Backed Securities with Total Rate of Return Simulation," Bank Accounting & Finance, vol. 5, Issue 3, p. 13, Boston, (Spring 1992).Classifications U.S. Classification705/35, 705/37, 705/39, 705/38International ClassificationG06Q40/00Cooperative ClassificationG06Q40/00, G06Q40/04, G06Q20/10, G06Q40/025European ClassificationG06Q40/04, G06Q20/10, G06Q40/00, G06Q40/025Legal EventsDateCodeEventDescriptionJun 22, 2010CCCertificate of correctionAug 16, 2013FPAYFee paymentYear of fee payment: 4RotateOriginal ImageGoogle Home - Sitemap - USPTO Bulk Downloads - Privacy Policy - Terms of Service - About Google Patents - Send FeedbackData provided by IFI CLAIMS Patent Services