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Mortgage Price Volatility

Mortgage Price Volatility. Review of the Price-Yield Relationship An increase (decrease) in the required yield… Price Volatility Characteristics of Mortgages. Determinants of Price Volatility. Characteristics of a Mortgage that Affect Its Price Volatility Coupon Rate Term to Maturity

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Mortgage Price Volatility

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  1. Mortgage Price Volatility • Review of the Price-Yield Relationship • An increase (decrease) in the required yield… • Price Volatility Characteristics of Mortgages

  2. Determinants of Price Volatility • Characteristics of a Mortgage that Affect Its Price Volatility • Coupon Rate • Term to Maturity • Yield-to-Maturity

  3. Measuring Mortgage Price Volatility • Price Value of a Basis Point • Note: Mortgage Yield Ticks Usually Equal 1/8th of 1%

  4. Duration • Definition - • Derivation:

  5. Calculating Duration • Ex. Consider a $100,000, 6% APR mortgage with 10 years to maturity and an initial yield of 8.0%. What is this mortgage’s duration?

  6. Alternative Duration Derivation • Rewrite the price of a mortgage as the present value of an annuity: • Differentiate with respect to the required yield: • Modified Duration =

  7. Now What??? • Approximate % Change in Price: • Actual % Change in Price: • Conclusions:

  8. Duration Illustrated • Duration attempts to measure… • Conclusions: Price Yield

  9. Approximating Duration • Approximating a Mortgage’s Duration • Example: What is the approximate duration for our 10 year, 6% APR, $100,000 mortgage with 10 years remaining until maturity and an initial yield of 8.0%?

  10. What About Embedded Options???

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