What is the effective interest rate, assuming the mortgage is paid off after 30 years?

(a) Monthly payment would be $1264.14. If the mortgage was paid off within 30 years, then 4.5% would be the effective interest rate. The effective rate of interest would be 5.39% if the borrower intends to repay the loan in three years. (d) A 90 percent loan with an interest rate at 5.5% would require a greater monthly payment and would be more expensive than a loan of the same amount. To earn 4.5% market interest, the homebuilder will need to sell his home at $265,217.17.

  1. If no default occurs in the mortgage pool during the four-year period
  • For seniors, the return would be 32%
  • A return of 40% would be possible for the subordinated classes
  • A 20% return would be possible on the residual tranche
  1. If the property value associated with the mortgage pool is less than 80% of the remaining loan balance at the end the fourth year:
  • Seniors would see a return of -6%
  • A subordinated class would return -2%
  • A return of -30% would be possible for the residual tranche

a) MBS prices would amount to $24,958,927.41. b) MBS is considered “callable” because the underlying mortgages in the pool may be prepaid by the borrowers, resulting in the return of the principal to the MBS holder before the maturity of the security. MBS pricing may be affected by the callable aspect. As interest rates fall, more borrowers might choose to refinance, which can lead to higher prepayments and lower returns for MBS holders.

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