The empirical study of the relationship between RMBS and prepayment rate in Taiwan

• Main Authors: Kuo-Ching Chin, 金國慶
• Other Authors: Guangdi, Chang
• Format: Others
• Language: zh-TW
• Published: 2008
• Online Access: http://ndltd.ncl.edu.tw/handle/45686455816514219145

碩士 === 國立臺灣科技大學 === 財務金融研究所 === 96 === Mortgage loans are a major part of the credit portfolios of domestic banks in Taiwan. To enhance asset liquidity, release funds from real estate mortgage loans, and reduce asset liability mismatch, Residential Mortgage Backed Securities (RMBS) have become an important tool in the financial markets in recent years. Banks engaging in mortgage loan business face default risk and prepayment risk, the latter being particularly important in mortgage loans. These two kinds of behavior on the part of borrowers result in uncertainty of cash flows and have significant impact on the asset/liability management of banks. In the process of securitization for the mortgage loans, both default rates and prepayment rates are the key factors in the valuation of the securities. Most banks in Taiwan have able to grasp the asset quality and default rates of their mortgage loans. With respect to prepayment, however, banks are either in the early stage of their studies, or merely focus on such variables as borrowers’ characteristics, borrowers’ behavior, types of pledged houses and loan agreement terms, in very much the same way as their studies on default rate. There is no insight into the application and reasonableness of prepayment rates in issuing RMBS securities. Regarding the rationality of the prepayment speed applied was actually neglected. Only banks intending to issue RMBS securities are inclined to dedicate themselves to the study of the relationship between prepayment rates and valuation of securities. This article studies the prepayment rates of two banks (Bank A and Bank B) with certain mortgage loan size but different profile, based on the PSA Prepayment Model. The empirical date, show that the prepayment rate increases respectively at 3% and 2% each month on a constant linear slope, to an annualized rate of 34% and 21% CPR, and becomes stable after twenty months. Such annualized prepayment rates, compare with the market norm of 15% - 30% CPR for the valuation of securitized residential mortgage products, are within an acceptable range. Even under different prepayment rates, a comparison of the differences before and after securitization leads to the conclusion that the return for Bank A increases from 6.46% to 13.49% and for Bank B from 9.04% to 19.37%. This study proves that securitization can enhance the financial benefit for both banks. Discovered in the RMBS valuation stage, the most important attribute affecting the price of security is the smooth repayment of the loan principal and interest namely the quality of loans pooled as underlying assets for securitization. To issue securities with attractive pricing and achieve the win-win relationship between the originators and investors, the key lies in the banks’ holding sufficient quality loans for securitization. Otherwise the banks would end up with poor assets which not only increase their credit exposure but also the need for additional capital to support the risks. Protection for the investors would also be adversely affected. It is hoped that this paper will provide a basic understanding of how prepayment affects residential mortgage loan securitization and will add to the confidence of the banks preparing to participate in the RMBS market in Taiwan.