Calamity Call - Explained
What is a Calamity Call?
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What is a Calamity Call?
A calamity call is used in collateralized mortgage obligation (CMO), it serves as a protective measure. A calamity call requires that an issuer pay off (retire) a portion of the CMO if the underlying mortgage does not generate enough cash needed to make principal and interest payments on the CMO. A calamity call is also known as a clean-up call. It is a redemption call used by an issuer if the underlying collateral in a mortgage generates less cash than what is needed to make payments in CMO. It offers protection to an issuer regarding reinvestment risk.
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How Does a Calamity Call Work?
A collateralized mortgage obligation is a fixed income security that directs payments received from a collateral pool to different securities in order to meet the needs of the investors. Money repaid by borrowers in CMOS make up the cash flow. Typically, investors enjoy a steady flow of mortgage cash without buying mortgages directly using CMOS. In the case of a calamity call, an issuer is protected from reinvestment risk in case a borrower defaults on payment of principal and interest. A calamity call prevents defaults in CMOS and also ensure that investors have access to an uninterrupted income flow. A calamity call or cleanup call is a protection call used in CMOs. Aside from this call, there are other calls that gives protection to an issue and prevent defaults in CMOs. these calls include over-collateralization and pool insurance. Through the use of calamity call, an issuer will retirea portion of the CMO if the cash flow generated by the underlying collateral is not enough to support the scheduled principal and interest payments. Calamity calls protect investors from default losses. For example, a lost revenue or cash flow deterioration from a municipal bond can be offset by an issue using a catastrophe or calamity call.