CMBS - defeasance call protection

Is the defeasance call protection for CMBS used together with yield maintenance charges? If I understand correctly, defeasance in CMBS is when prepayments/curtailments on the loan are received and invested in Treasuries. If so, these principal payments would be invested at lower yields than the rates promised to the CMBS investor… how is the investor “made whole”? If you charge the yield maintenance charges, wouldn’t it make sense to pass them through to the investor as they are charged, together with the prepayments? Can someone please explain this? Thanks in advance!

nattyg Wrote: ------------------------------------------------------- > Is the defeasance call protection for CMBS used > together with yield maintenance charges? If I > understand correctly, defeasance in CMBS is when > prepayments/curtailments on the loan are received > and invested in Treasuries. If so, these > principal payments would be invested at lower > yields than the rates promised to the CMBS > investor… how is the investor “made whole”? It’s not necessarily true. Spreads are positive but interest rates can go up enough that Treasuries are higher yielding than the loan. Defeasance doesn’t say that if the principal outstanding is $1M then $1M will be invested in Treasuries. It says that if $1M is outstanding then whatever is necessary to service the loans payments gets invested in Treasuries. If you own CMBS a defeasance is a good thing because you now own Treasuries as collateral instead of a strip mall in Sheboygan and are getting the same cash flows. > If > you charge the yield maintenance charges, wouldn’t > it make sense to pass them through to the investor > as they are charged, together with the > prepayments? Can someone please explain this? Yield maintenance charges are passed through but they only happen at the prepayment or curtailment. > Thanks in advance!

Thanks for the response. What do you mean by “whatever is necessary to service the loans payments”?

It’s a complicated thing but a very basic and unrealistic model would be to say that if you have payments under the loan of P1, P2,…, PK you buy zero coupon STRIPS paying P1, … , PK on the dates those payments are due. Your mortgage lender would be delighted with that portfolio but there are almost certainly cheaper ways of doing it.

ok - got the concept. Thanks again.