What is a PAC II tranche in a CMO and how does it differ from the original PAC I?

A PAC II (Planned Amortization Class II) tranche is a secondary PAC tranche created from what would otherwise be the support tranche in a CMO structure. It has its own prepayment protection band, but that band is narrower than the PAC I band and provides less certain cash flows.

CMO Hierarchy:

How PAC II Is Created:

1. Start with a mortgage pool
2. Create PAC I with a wide band (e.g., 100-300 PSA)
3. The remaining cash flow variability is allocated to a support tranche
4. From that support tranche, carve out a PAC II with a narrower band (e.g., 150-250 PSA)
5. Whatever's left becomes the pure support tranche

Comparison:

Example — Clearwater CMO Trust 2026-A:

At 200 PSA (mid-band for both), all tranches receive their scheduled payments.

At 350 PSA:

• PAC I: Still receives scheduled payments (within its 100-300 band — wait, 350 exceeds it)
• Actually at 350 PSA: PAC I protection begins to erode because 350 > 300
• Support tranche is depleted first, then PAC II absorbs the next hit, PAC I last

Key Insight:

PAC II is essentially a "better support tranche." It offers more predictability than the pure support but much less than PAC I. If prepayments are moderate, PAC II behaves well. If extreme, it behaves like a support tranche.

CFA Exam Tip: Know the hierarchy: PAC I is most protected, PAC II is second, support is least. If asked about average life variability, rank accordingly.

Practice CMO tranche analysis in our CFA fixed income question bank.