Weighted Average Coupon (WAC)
Candlefocus EditorWhen a pool of mortgages is securitized for sale in the capital markets, each of the loans in the pool has a different coupon rate, and the result is a weighted average of all the coupons in the pool. This weighted coupon is referred to as the WAC. It doesn’t necessarily reflect what the investors in the pool will receive from principal and interest payments, some mortgage loans may pay off early or further loans may be added to the pool, but it does give an indication of the pool’s average interest rate.
The WAC is especially useful for analyzing the pre-payment characteristics of MBS pools because it helps investors to estimate the return they may receive from an investment. When mortgage loans in a pool have a higher coupon rate, homeowners are more likely to refinance, as they can save money by paying a lower interest rate. By understanding the WAC of a pool, investors can get an indication of the MBS’ vulnerability to prepayment.
In addition to its usefulness in characterizing MBS, the WAC can also be a useful indicator of overall mortgage market conditions. When mortgage rates rise, the coupon rate for new loans increase and the WAC for the pool also rises. Therefore, investors can use the WAC of a pool as a measure of market demand for mortgages, and investors can use this information to make decisions about whether or not to invest in an MBS.
In summary, weighted average coupon (WAC) is an important metric used to measure mortgage-backed securities. The WAC represents the average of the coupon rates of the underlying mortgages in an MBS, and it provides investors with an indication of the MBS’ pre-pay characteristics and overall mortgage market conditions. Investors can use the WAC to make an informed decision about whether or not to invest in a particular MBS.