One of the distinguishing features of mortgages as an asset class is the existence of prepayment risk, with the consequent asset valuation problems to investors that prepayment introduces. At a different level, the accuracy of prepayment estimates in a pool of mortgages may also affect the risk-return characteristics of mortgage backed securities issues.
Research in prepayment has thus been prolific and has matured into a coherent body of work that has a sound theoretical framework and consistent empirical validation. Previous research in prepayment has largely completed the circumscription of causes for prepayment of Fixed Rate Mortgage generally with most studies conducted in the USA; but few studies on Variable Rate Mortgage have been conducted and even fewer studies exist on prepayment in countries other than the USA.
As contribution to this broader body of endeavour, this paper presents a quantitative analysis of prepayment data of Variable Rate Mortgages in Hong Kong. It is the purpose of this study to enhance the knowledge and understanding of prepayment behaviour, by examining the historical prepayment pattern of a sample of Variable Rate Residential Mortgages from two banks in Hong Kong and to attempt to identify causes of prepayment.
The paper commences with a brief review of important aspects of prepayment research that are viewed as necessary to locate the empirical research reported on in the broader body of prepayment research, and to order analysis leading to the identification and empirical analysis of variables that contribute to prepayment in Variable Rate Mortgages in Hong Kong. An empirical model which tests expected relationships between selected variables and prepayment identified in the brief review is then presented, based on the historical prepayment pattern of a sample of VRMs in Hong Kong. We then conclude.
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