Article ID: | iaor201522889 |
Volume: | 10 |
Issue: | 2 |
Start Page Number: | 133 |
End Page Number: | 142 |
Publication Date: | Jun 1987 |
Journal: | Journal of Financial Research |
Authors: | Anderson Gary, Chiang Raymond |
Keywords: | finance & banking |
The impact of random early termination on the interest rate elasticity and the related implications of hedging a mortgage security are examined. The common approach to computing duration using average mortgage life is shown to be biased and insufficient. Because the prepayment distributions of mortgages tend to have wide dispersions, substantial errors result from using average mortgage life. These results are also applicable to other financial obligations subject to prepayment.