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The value of mortgage prepayment and default options
Author(s) -
Chen Yong,
Connolly Michael,
Tang Wenjin,
Su Tie
Publication year - 2009
Publication title -
journal of futures markets
Language(s) - English
Resource type - Journals
SCImago Journal Rank - 0.88
H-Index - 55
eISSN - 1096-9934
pISSN - 0270-7314
DOI - 10.1002/fut.20388
Subject(s) - prepayment of loan , valuation (finance) , mortgage underwriting , actuarial science , value (mathematics) , default , economics , interest rate , option value , maturity (psychological) , econometrics , mortgage insurance , mathematics , finance , microeconomics , statistics , psychology , developmental psychology , casualty insurance , incentive , insurance policy
We use an implicit alternating direction numerical procedure to estimate the value of a fixed‐rate mortgage (FRM) with embedded default and prepayment options. The value of FRMs depends on interest rates, the house value, and mortgage maturity. Our numerical results suggest that the joint option value of prepayment and default is considerably high, even at loan origination. We extend the model to include prepayment penalties in FRM valuation. © 2009 Wiley Periodicals, Inc. Jrl Fut Mark 29:840–861, 2009