CFAI, V#5, Reading 48, Answer of Q#5b (P#481):
Mr. Jamison should interpret the SMM as follows: 0.9459% of the mortgage pool available to prepay in month 42 prepaid in the month.
Although there is explanation of similar stuff on page 424 of this reading but I am not able to understand this specially highlighted area.
Any simple explanation?
SMM of 0.9549% in month 42 has the interpretation that 0.9549% of the beginning pool balance left after scheduled montly payments in month 42 actually prepaid . i.e. Prepayment in excess of scheduled monthly payment of the pool. Potentially, prepayment could be the entire balance amount of pool but that could only be expected in reponse to a major catastrophy . In all likelihood some of the balance is expected to be prepaid.
SMM of 0.9549% in month 42 has the interpretation that 0.9549% of the beginning pool balance left after scheduled monthly payments in month 42 actually prepaid . i.e. Prepayments in excess of scheduled monthly payments of the pool. Potentially, prepayments could be the entire balance amount of pool but that could only be expected in reponse to a major catastrophy . In all likelihood some of the balance is expected to be prepaid.
SMM of 0.9549% in month 42 has the interpretation that 0.9549% of the beginning pool balance left after scheduled monthly payments in month 42 actually prepaid . i.e. Prepayments in excess of scheduled monthly payments of the pool. Potentially, prepayments could be the entire balance amount of pool but that could only be expected in reponse to a major catastrophy . In all likelihood some of the balance is expected to be prepaid.
Any other interpretation?
It’s simply stating that given the historical prepayment, you know the actual prepayment m42 was 0.9459% of the outstanding principal payment available (to be prepaid) at the beginning of the month.
I do not understand the concept as well.
Created an excel file, where I wanted to compare a standard hypothetical 30 yrs amortizing mortgage (Vo = 100k) with a 100 PSA passthrough of same initial value. The monthly payments are 421,60 , and on the right of the red color column, I did not manage to fit all expected payments assuming prepayment. Anyone could correct my excel file? It would certainly go a long way to explain the mechanics of prepayment, for me and other candidates.
My problem is one of circularity. Prepayments are a function of the principal repayment in the current month, but principal repayment will be greater if there was prepayment in the previous month… Whatever I m lost 
You need to add the prepayment amount in column ‘m’ to the ending principal balance in column ‘L’ to see impact.
so In L6 onwards, =L5-K5-M5 ?? Looks like it, could someone confirm the rest is fine?? There is obviously a little slippage after the scenario on the right side of the red column is done being paid (not hard to fix, but not the point). Thanks.
Suppose that you have a mortgage pool with just over $10 million in principle left at the beginning of March, 2014: month 42. If all of the homeowners make their scheduled mortgage payments in March – no more, no less – then the remaining principle will be exactly $10 million.
However, some selfish homeowner decides to sell their home in New Jersey and retire in Florida; the remaining balance on their loan is $94,590 (in addition to their March, 2014 principle and interest), and they pay it off. They’re the only homeowner thoughtless enough to do this.
Thus, the SMM is $94,590 / $10,000,000 = 0.9459%. If all of the homeowners had been equally selfish, they could have paid $10 million in extra principle: 100% of the outstanding balance (above their required March payment). Most of them, however, were more concerned about the welfare of the MBS bondholders’ welfare: they decided to make only their scheduled payments, so that they could continue to make interest payments for years to come. The only unfeeling member of the pool – the one who spoiled everything – made a prepayment amounting to 0.9459% of the outstanding principle balance: 0.9459% of the amount that could have been prepaid if the rest of the homeowners were a cavalier about the welfare of the MBS bondholders as that one sociopath was.
Things could have been a lot worse.
My pleasure.