Privately Issued Mortgage Related Securities

The National Credit Union Administration (NCUA) Board has acted to permit Federal credit unions to invest in privately-issued mortgage-related securities under Section 107 (15) (FB) of the Federal Credit Union Act. The NCUA Board has also acted to authorize certain investments in mortgage notes pursuant to Section 107 (15) (A) of the Act.

Investments made under Section 107 (15) (A) may only be made if a Federal credit union has an ongoing program of making real estate-secured loans and needs comparable loans to complete the packaging of a pool of loans for sale or pledge on the secondary market. Section 701 23 of NCUA's regulations contains the requirements for this activity.

This letter is to provide information and guidance concerning Section 107(15)(B) investments, as well as discuss the mortgage-related security market in general. Before making investments authorized under Section 107(15)(B), the credit union's board of directors should determine that the investment is permissible. This determination should be supported by a legal opinion from an independent source, and not by relying on the advice of the broker or other party marketing the investment.

Privately -issued securities require the same sound investment policies and practices as other investments. In brief, the board of directors should:

1. Diversify investments by type, maturity and degree of risk.
2. Follow investment strategy that includes an asset-liability and a rate sensitivity analysis.
3. Deal with established, financially sound and reputable broker/dealers.
4. Determine that proper safekeeping of securities is maintained.
5. Monitor investments continually, review management performance, and determine compliance with policy. In Letter No. 89, the NCUA Board gave specific guidance to credit unions who choose to actively trade in the securities market. There are many mortgage-backed securities such as FNMA Strips, Splits, Pos and Ios that are extremely volatile as interest rates change. While these investments may be legal, their volatility makes them inappropriate for most credit union investment strategies. Extreme caution is urged. If the market characteristics of the instrument, whether privately- or government-issued, make it extremely volatile, then it will be considered a trading account and is subject to the requirements and restrictions of NCUA Letter No. 89 to Federally-Insured Credit Unions, dated April 3, 1987.

Enclosed is an Appendix which provides general information about mortgage-related securities. The key to successful investing remains common sense and sound investment policies.