The estimation of mortgage prepayment rates

This paper uses a model in which prepayment rates on large pools of mortgages are a function of the differential between the prevailing market rate for mortgages and the contract rate at which the mortgages were originally issued. The empirical part of the paper shows a significant inverse relationship between the interest‐rate differential and prepayment rates. The relationship is most elastic whenever the current market rate for mortgages is between one and three percent below the contract rate of the pool. For a given interest‐rate differential, the estimated prepayment rate generally decreases and the elasticity increases as the contract rate rises.