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Improving Parametric Mortgage Prepayment Models with Non-parametric Kernel Regression

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Author Info

  • Michael LaCour-Little

    ()
    (Washington University in St. Louis and Wells Fargo Home Mortgage in Clayton, MO 63105)

  • Michael Marschoun

    ()
    (PMI Mortgage Insurance Co., San Francisco, CA 94111)

  • Clark L. Maxam

    ()
    (Montana State University, Bozeman, MT 59717)

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    Abstract

    Developing a good prepayment model is a central task in the valuation of mortgages and mortgage-backed securities but conventional parametric models often have bad out-of-sample predictive ability. A likely explanation is the highly non-linear nature of the prepayment function. Non-parametric techniques are much better at detecting non-linearity and multivariate interaction. This article discusses how non-parametric kernel regression may be applied to loan level event histories to produce a better parametric model. By utilizing a parsimonious specification, a model can be produced that practitioners can use in valuation routines based on Monte Carlo interest rate simulation.

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    File URL: http://aux.zicklin.baruch.cuny.edu/jrer/papers/pdf/past/vol24n03/05.299_328.pdf
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    Bibliographic Info

    Article provided by American Real Estate Society in its journal Journal of Real Estate Research.

    Volume (Year): 24 (2002)
    Issue (Month): 3 ()
    Pages: 299-328

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    Handle: RePEc:jre:issued:v:24:n:3:2002:p:299-328

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    Postal: American Real Estate Society Clemson University School of Business & Behavioral Science Department of Finance 401 Sirrine Hall Clemson, SC 29634-1323
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    Postal: Diane Quarles American Real Estate Society Manager of Member Services Clemson University Box 341323 Clemson, SC 29634-1323
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    Web: http://aux.zicklin.baruch.cuny.edu/jrer/about/get.htm

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    1. Estrella, Arturo, 1998. "A New Measure of Fit for Equations with Dichotomous Dependent Variables," Journal of Business & Economic Statistics, American Statistical Association, vol. 16(2), pages 198-205, April.
    2. Green, Jerry & Shoven, John B, 1986. "The Effects of Interest Rates on Mortgage Prepayments," Journal of Money, Credit and Banking, Blackwell Publishing, vol. 18(1), pages 41-59, February.
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    15. Green, Richard K. & LaCour-Little, Michael, 1999. "Some Truths about Ostriches: Who Doesn't Prepay Their Mortgages and Why They Don't," Journal of Housing Economics, Elsevier, vol. 8(3), pages 233-248, September.
    16. Eduardo S. Schwartz & Walter N. Torous, 1993. "Mortgage Prepayment and Default Decisions: A Poisson Regression Approach," Real Estate Economics, American Real Estate and Urban Economics Association, vol. 21(4), pages 431-449.
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