This post aims to provide conceptual background for the CMO model available here.

Introduction

Collateralized Mortgage Obligation (CMO) is a type of mortgage-backed security that, essentially, distribute payments of interest and principal of a pool of mortgages to separate debt instruments. These instruments are split into classes (tranches) to create securities with different maturities that would be attractive to a broader range of investors than the original pool of loans.

Originally, CMOs were created out of mortgage pools guaranteed by US federal agencies or government sponsored enterprises (mostly Fannie Mae, Freddie Mac, and Ginnie Mae). If the cash flows from the…