Does this security have credit risk??? please explain your answer!
Depends. The “agency” part means that some agency (FNMA or GNMA) guarantees part of the CMO. Do you think the US government has credit risk? You can argue both ways.
CFAi Reading 47 # 15)D says ; CMO has no credit!!!
"Investors who do not appreciate the significance of the option risk associated with a tranche can be induced to buy PAC II B because they look exclusively at the nominal spread. While the nominal spread is not provided as part of the information in the question, it can be estimated from the Z-spread. A Z-spread of 280 basis points is extremely appealing to investors for a security with no credit risk (since the deal is an agency CMO deal). Also, investors who do not realize that a PAC II is a support bond will believe that they have purchased a PAC tranche with a high “spread” to Treasuries. " (Institute 559) Institute, CFA. Level II 2013 Volume 5 Alternative Asset Valuation and Fixed Income. John Wiley & Sons (P&T), 7/9/2012. .
That why I qualified my statement with “it depends”. Yes, CFAI probably still says US debt is riskless. However, reality now believes otherwise. So, it depends on what you are doing with the answer.
Very limited credit risk. Better than any AAA corporate if those even exist anymore. Why? You looking to buy some?
No!!! i was working an EOC from CFAi problem.