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Rev Fin 1997; 10:405-446
© 1997 the Society for Financial Studies

Article

Pricing mortgage-backed securities in a multifactor interest rate environment: a multivariate density estimation approach

J Boudoukh1, RF Whitelaw1, M Richardson2,3 and R Stanton4
1 New York University, NY, USA
2 Finance Department, Stern School of Business, 44 West 4th Street, New York, NY, USA
4 University of California, Berkeley, CA, USA
3 Corresponding author

Abstract

Multivariate density estimation (MDE) suggests that mortgage-backed security (MBS) prices can be well described as a function of the level and slope of the term structure. We analyze how this function varies across MBSs with different coupons. An important finding is that the interest rate level proxies for the moneyness of the option, the expected level of prepayments, and the average life of the cash flows, while the term structure slope controls for the average rate at which these cash flows should be discounted.


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