Would anyone be willing to explain exactly what it means to back bonds
by residential mortgages? Does this basically mean that the bank will
use the actual mortgages as collateral to cover bond debt should the
bank default? Is the basic idea behind the bank's logic that it can
No it means that the bank is selling the mortagages to someone else to generate free cash flow. Some agencies e.g. Fannie Mae may continue to provide some kind of guarantees against default for the underlying mortagages, but in most cases the bank selling the mortgages has no further exposure to them anymore. The buyer
of the bond has an exposure but it is "averaged out" in the sense that
a large number of bonds are collectively exposed to a large number of individual mortgages. In practice there are many variations but this is
the basic idea.
http://www.sec.gov/answers/mortgagesecurities.htm
