when rate decrease, why higher coupon MBS has higher prepayment rate compared with lower coupon ones. when rate increase, does higher coupon MBS have lower prepayment ? one manager strategy is buying stock far lower than intrinsic value, why this strategy is market oriented rather value oriented?
linping85 Wrote: ------------------------------------------------------- > when rate decrease, why higher coupon MBS has > higher prepayment rate compared with lower coupon > ones. when rate increase, does higher coupon MBS > have lower prepayment ? > > one manager strategy is buying stock far lower > than intrinsic value, why this strategy is market > oriented rather value oriented? Think of examples. If your MBS has a coupon rate of 8% and a friend has a coupon rate of 3%. If the market rate decreases from 7% to 4%, who do you think will prepay to take advantage of the situation. It depends on the rate at which it has increased. If it has increases from 5% to 7%, there will be people who already have prepay-ed. So yes higher coupon will have lower prepayment or no prepayment at all.
thanks, from text, I realize that MBS=bond+short call option on interest rate, the callable bond=bond+long call option on interest rate, when rate decreases, callable bond value drops, but MBS value goes up, since you mentioned that when rate decrease, MBS has more prepayment risk, then why MBS value goes up, is it self contractdictory?
linping85 Wrote: ------------------------------------------------------- > thanks, from text, I realize that MBS=bond+short > call option on interest rate, the callable > bond=bond+long call option on interest rate, when > rate decreases, callable bond value drops, but MBS > value goes up, since you mentioned that when rate > decrease, MBS has more prepayment risk, then why > MBS value goes up, is it self contractdictory? http://www.investopedia.com/terms/n/negative_convexity.asp
bpdulog Wrote: ------------------------------------------------------- > http://imageshack.us/photo/my-images/94/unledsu.jp > g/ Second time seeing your diagram and still loled.