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Definition of Prepayment

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A payment made in advance of when it is treated as an expense for profit purposes.

Related Terms:

FHA prepayment experience

The percentage of loans in a pool of mortgages outstanding at the origination
anniversary, based on annual statistical historic survival rates for FHA-insured mortgages.

Lag response of prepayments

There is typically a lag of about three months between the time the weighted
average coupon of an MBS pool has crossed the threshold for refinancing and an acceleration in prepayment
speed is observed.

Prepayment speed

Also called speed, the estimated rate at which mortgagors pay off their loans ahead of
schedule, critical in assessing the value of mortgage pass-through securities.


Payments made in excess of scheduled mortgage principal repayments.

Zero prepayment

assumption The assumption of payment of scheduled principal and interest with no payments.

Break-even payment rate

The prepayment rate of a MBS coupon that will produce the same CFY as that of
a predetermined benchmark MBS coupon. Used to identify for coupons higher than the benchmark coupon
the prepayment rate that will produce the same CFY as that of the benchmark coupon; and for coupons lower
than the benchmark coupon the lowest prepayment rate that will do so.

Current assets

Amounts receivable by the business within a period of 12 months, including bank, debtors, inventory and prepayments.

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Effective margin (EM)

Used with SAT performance measures, the amount equaling the net earned spread, or
margin, of income on the assets in excess of financing costs for a given interest rate and prepayment rate


With PAC bond CMO classes, the period before the PAC sinking fund becomes effective. With
multifamily loans, the period of time during which prepayment is prohibited.

Mortgage duration

A modification of standard duration to account for the impact on duration of MBSs of
changes in prepayment speed resulting from changes in interest rates. Two factors are employed: one that
reflects the impact of changes in prepayment speed or price.

Mortgage pass-through security

Also called a passthrough, a security created when one or more mortgage
holders form a collection (pool) of mortgages sells shares or participation certificates in the pool. The cash
flow from the collateral pool is "passed through" to the security holder as monthly payments of principal,
interest, and prepayments. This is the predominant type of MBS traded in the secondary market.


The tendency of a pool of MBSs to reflect an especially high rate or prepayments the first time
it crosses the threshold for refinancing, especially if two or more years have passed since the date of issue
without the WAC of the pool having crossed the refinancing threshold.

Planned amortization class CMO

1) One class of CMO that carries the most stable cash flows and the
lowest prepayement risk of any class of CMO. Because of that stable cash flow, it is considered the least risky CMO.
2) A CMO bond class that stipulates cash-flow contributions to a sinking fund. With the PAC,
principal payments are directed to the sinking fund on a priority basis in accordance with a predetermined
payment schedule, with prior claim to the cash flows before other CMO classes. Similarly, cash flows
received by the trust in excess of the sinking fund requirement are also allocated to other bond classes. The
prepayment experience of the PAC is therefore very stable over a wide range of prepayment experience.


A prepayment model based on an assumed rate of prepayment each month of the then unpaid principal
balance of a pool of mortgages. PSA is used primarily to derive an implied prepayment speed of new
production loans, a 100% PSA assumes a prepayment rate of 2% per month in the first month following the
date of issue, increasing at 2% per month thereafter until the 30th month. Thereafter, 100% PSA is the same as
6% CPR.

Scheduled cash flows

The mortgage principal and interest payments due to be paid under the terms of the
mortgage not including possible prepayments.


Related:prepayment speed

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Steady state

As the MBS pool ages, or four to six months after it was passed at least once through the
threshold for refinancing, the prepayment speed tends to stabilize within a fairly steady range.







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