Tony Smith, a CFA candidate, finds that MBS securities are particularly interesting and yet challenging. He believes that he fully understands sequentialpay tranche CMO and senior/subordinated tranche CMO. However, he has a hard time understanding a CMO with PAC/support tranches.

Smith asks for help from his friend, Janet Greene, CFA. Greene has managed MBS securities for years and she gives the following example to demonstrate how PAC/support tranche CMO works:

First, Greene would like to make sure that Smith is clear on the waterfall of a CMO with a PAC tranche and support tranche because it is the basis of understanding how the support and PAC tranches work. Therefore, she asks Smith to identify which types of risk, contraction risk or extension risk, the support tranche absorbs from the PAC tranche.

Next, Greene discusses the initial collar of the PAC tranche and, as a way to test his knowledge, she asks Smith to interpret a PSA reading of 75.

Finally, Greene and Smith examine the following table . Greene tells Smith that she purposely omitted the last three average lives and asks Smith to discuss what average lives he would expect to see for the 250, 400, and 600 prepayment rates. She provides three possible sets of values for the missing data and asks Smith to determine the most likely correct set:

	Possible P Tranche Average Life (Years)
Prepayment Rate (PSA)	Set 1	Set 2	Set 3
250	6.5	6.5	5.3
400	6.5	4.8	4.1
600	6.5	2.1	2.3

In the CMO with a PAC tranche P and a support tranche S, the support tranche S carries more of which of the following risk(s) than the PAC tranche P?

Group of answer choices

a. Both contraction risk and extension risk.

b. Contraction risk, only.

c. Extension risk, only.