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Elective Mortgage Prepayment: Termination and Curtailment

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  • Peter Chinloy

Abstract

Mortgage‐prepayment risk underlies the structuring of mortgage‐backed derivative securities, such as tranched real estate mortgage investment conduits. This prepayment comes either from mortgage termination or from curtailment, where the borrower retains the existing mortgage and prepays a portion. There are differences in cash flows from the two types of prepayment. In termination, the loan disappears from a pool, and the scheduled payment to investors in the pool is reduced. In curtailment, the loan survives, and the scheduled payment is unchanged but the term is reduced. There are implications for structuring mortgages and derivative securities. The prepayment decision is embedded in an in‐tertemporal household utility maximization framework where choices are made between refinancing, making the regular payment, default or curtailment. Empirical results are presented for Government National Mortgage Association (GNMA) pools, and an algorithm is presented that separates the termination and curtailment components, facilitating the development of derivative securities.

Suggested Citation

  • Peter Chinloy, 1993. "Elective Mortgage Prepayment: Termination and Curtailment," Real Estate Economics, American Real Estate and Urban Economics Association, vol. 21(3), pages 313-332, September.
    • Handle: RePEc:bla:reesec:v:21:y:1993:i:3:p:313-332
    DOI: 10.1111/1540-6229.00613
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    1. anonymous, 1992. "Membership of the Board of Governors of the Federal Reserve System, 1913-92," Federal Reserve Bulletin, Board of Governors of the Federal Reserve System (U.S.), issue Jan, pages 105-106.
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    Cited by:

    1. Weida Kuang & Chunlin Liu & Qun Wu & Hongchao Zeng, 2021. "How do Interest Rate Changes Affect Mortgage Curtailments? Evidence from China," Real Estate Economics, American Real Estate and Urban Economics Association, vol. 49(S2), pages 395-427, September.
    2. McCollum, Meagan N. & Lee, Hong & Pace, R. Kelley, 2015. "Deleveraging and mortgage curtailment," Journal of Banking & Finance, Elsevier, vol. 60(C), pages 60-75.
    3. Archer, Wayne R. & Ling, David C. & McGill, Gary A., 1996. "The effect of income and collateral constraints on residential mortgage terminations," Regional Science and Urban Economics, Elsevier, vol. 26(3-4), pages 235-261, June.
    4. Lin, Che-Chun & Yang, Tyler T., 2005. "Curtailment as a mortgage performance indicator," Journal of Housing Economics, Elsevier, vol. 14(3), pages 294-314, September.
    5. Deng, Yongheng & Gu, Quanlin & He, Jia, 2021. "Reinforcement learning and mortgage partial prepayment behavior," Pacific-Basin Finance Journal, Elsevier, vol. 68(C).
    6. Che-Chun Lin & Ting-Heng Chu & Larry J. Prather & Perry Wang, 2005. "Mortgage Curtailment and Default," International Real Estate Review, Global Social Science Institute, vol. 8(1), pages 95-109.

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