Mortgage Bonds: More Than Meets the Eye

Mortgage bonds primarily trade within ETFs and mutual funds rather than directly to civilians. A 30-year mortgage bond operationally behaves more like a 12-year security due to its amortizing nature, where principal is returned over time. The valuation of a mortgage bond is influenced by its similarity to a buy-write structure involving the purchase of a 10-year treasury and the sale of a call option. The critical factor determining the mortgage bond's value lies in the call option linked to it, which is primarily driven by interest rates and implied volatility, rather than the principal repayment itself.