dwarf

Mortgage-backed securities (MBS) are securities that represent an interest in a pool of mortgage loans. Let's assume you want to buy a house, so you get a mortgage from XYZ Bank. XYZ Bank transfers money into your account, and you agree to repay the money according to a set schedule. XYZ Bank (which could also be a thrift, credit union, or other originator) may then choose to hold the mortgage in its portfolio (i.e., simply collect the interest and principal payments over the next several years) or sell it.

If XYZ Bank sells the mortgage, it gets cash to make other loans. So let's assume that XYZ Bank sells your mortgage to Fannie Mae. Fannie Mae groups your mortgage with similar mortgages it has already purchased (referred to as "pooling" the mortgages). The mortgages in the pool have common characteristics (i.e., similar interest rates, maturities). Pools that mature in fewer than 15 years make up dwarves.

Fannie Mae then sells securities that represent an interest in the dwarves, of which your mortgage is a small part (called securitizing the pool). It sells these MBS to investors in the open market. With the funds from the sale of the MBS, Fannie Mae can purchase more mortgages and create more MBS.