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First, I don't see how they (arguably more like a trader or a sales person than a banker) can possibly determine whether or not you understand the product. You

by vostok 9y ago

First, I don't see how they (arguably more like a trader or a sales person than a banker) can possibly determine whether or not you understand the product. You don't generally expect car sales people to determine whether or not you really need a Ferrari or if a Toyota will do. Second, we all buy financial products that we don't understand and we generally benefit from them. Many people use fixed rate mortgages to buy homes and index funds to invest. I'd argue that they probably don't understand those products as they're relatively complex underneath the surface. This isn't financial advice, but I'd argue that they do benefit from using them.

uiri 9y ago
Neither fixed rate mortgages nor index funds are particularly complex. The idea behind an index fund is that it invests in the components of an index. Generally, that is a specific basket of stocks or bonds. Stocks are perhaps the most straightforward financial instrument: pieces of ownership of a company. Bonds are a bit more complex, but they're just the right to repayment of a loan (principal plus interest). Complexity arises if the fund can't directly invest in the components of the index and most replicate it with other things instead but that's an implementation detail and an individual is perfectly capable of buying the individual components themselves if they're worried about that. A fixed rate mortgage is a loan with a fixed, compounding interest rate and a fixed term. The mortgage payment is determined based on an amortization schedule but that's an implementation detail - it could just as easily be monthly interest plus a fixed portion of the principal or something else.
- vostok 9y ago
  By your standards, MBS are also not particularly complex. They're not that different from pools of mortgages. In fact they have a lot of similarities with index funds and tranches are similar to options on the index. The complexity is precisely in the details. How much is the pre-payment option on your fixed rate mortgage worth? How much is the embedded interest rate swap that differentiates a fixed rate mortgage from a floating rate mortgage worth?

by vostok 9y ago

uiri 9y ago

Neither fixed rate mortgages nor index funds are particularly complex. The idea behind an index fund is that it invests in the components of an index. Generally, that is a specific basket of stocks or bonds. Stocks are perhaps the most straightforward financial instrument: pieces of ownership of a company. Bonds are a bit more complex, but they're just the right to repayment of a loan (principal plus interest). Complexity arises if the fund can't directly invest in the components of the index and most replicate it with other things instead but that's an implementation detail and an individual is perfectly capable of buying the individual components themselves if they're worried about that. A fixed rate mortgage is a loan with a fixed, compounding interest rate and a fixed term. The mortgage payment is determined based on an amortization schedule but that's an implementation detail - it could just as easily be monthly interest plus a fixed portion of the principal or something else.

vostok 9y ago
By your standards, MBS are also not particularly complex. They're not that different from pools of mortgages. In fact they have a lot of similarities with index funds and tranches are similar to options on the index. The complexity is precisely in the details. How much is the pre-payment option on your fixed rate mortgage worth? How much is the embedded interest rate swap that differentiates a fixed rate mortgage from a floating rate mortgage worth?