Excess Spread
Excess spread: what happens if you slip during certain yoga poses (they call that the wishbone pose, post-pull).
Also, it describes an additional cushion built into some asset-backed securities.
You’re packaging a bunch of mortgages together to sell as a mortgage-backed security. The mortgages themselves pay an average return of about 5%. You build in some money for your costs and for other fees (insurance, etc.). The total return runs to about 6%.
But you can’t pay the full 6% to the investors in the mortgage-backed securities. What if something goes wrong and the mortgages default at a higher rate than expected? You need some cushion in case of unexpected bad luck.
So you sell them at 4%, using the two percent difference as a buffer. That amount represents the excess spread. The difference between the 6% you receive and the 4% you pay out.
Related or Semi-related Video
Finance: What is Spread?48 Views
finance a la shmoop. what is spread? before we start just no. get your mind
out of the gutter. spread refers to the money value between [100 dollar bill]
a bid and ask price under a market maker structure of trading securities. no more
wire hangers, a plastic hanger company is publicly traded on an exchange like
Nasdaq where buyers bid for a price to purchase and sellers ask for a price to [Nasdaq wall shown]
trade. no more wire hangers is bid this moment at 37:23 a share by buyers
willing to buy right now at that price and is being asked at this moment at a
price of 37.31. note the eight cents a shared difference in the share prices.
that dif is the spread between the two prices, and it's worth noting that in [bread is buttered]
extremely volatile stocks, the spread widens. and in boring highly liquid
stocks which don't move much, the spread tightens or is narrower. that is on a
volatile equivalent of no more wire hangers the spread might grow to 20 or
30 cents a share whereas a boring name that pays a big dividend and the stock
never moves much we're thinking AT&T here, [man snores at a desk]
well that spread might be just three or four cents. so why grow? well because a
market maker in a volatile stock doesn't want to be caught losing money on her
inventory. if no more wire hangers suddenly gapped down to 37.10 a share [equation shown]
well it would be likely less than the average of what the market maker paid
for her quote "inventory" unquote in that stock from which he was making a market
in it. each time the shares trade the market makers dip into that spread to [woman dips cracker in butter]
pay their bills and allow them to keep doing business. so that's spread. and it's
not the type that Prince used to sing about. [man on stage]
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