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First of all, there are multiple types of mortgage-backed securities (MBSs). Some are simply "pass-through securities", which flow the payments of interest and principal to the investor without any fancy structuring. Other MBSs have a tranche structure designed to give the investor some protection from defaults and prepayments. These are made by pooling bunches of pass-through securities.

There are some advantages to MBSs compared to other fixed income instruments. In particular, they have specified collateral that the trustee can seize and resell in the event of default (foreclosed properties). By comparison, government bonds typically do not have any collateral. Furthermore, MBSs offer a steady stream of mortgage payments. These payments can include both repayment of principal and interest. I think the frequency of payments is usually monthly, instead of two payments per year for the most common types of bonds. Lastly, because of their peculiar structure, MBS prices may not correlate exactly with other fixed income securities. This can be advantageous in a portfolio of fixed income securities.

They key downsides, in my opinion, are the prepayment and reinvestment risks. Prepayment risk is the risk that the repayments of principal come earlier than expected. Some degree of prepayment can be forecast, but there can be a high degree of uncertainty. Depending on how the MBS is structured, the prepayment risk can be high or low. It also depends on the situation. If current interest rates are lower than the interest rates of the underlying mortgages, then the prepayments tend to come in very quickly. The reinvestment risk has to do with the investor's inability to reinvest the interest and principal repayments at the same yield. If the investor cannot earn the same or higher yield on reinvestment, then the actual yield from their investment in the MBS will be less than the quoted yield at the time of purchase.

Mandie also alluded to another problem with MBSs. The secondary market for these securities is not as liquid as that for other securities. This means that the bid-offer spread on these may be wider than government bonds with similar maturities. MBSs typically do not have fixed maturity dates rather they have expected maturity dates. The actual maturity of the security depends upon the speed of prepayments.
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