Report

Implied mortgage refinancing thresholds

Abstract: The optimal prepayment model asserts that rational homeowners would refinance if they can reduce the current value of their liabilities by an amount greater than the refinancing threshold, defined as the cost of carrying the transaction plus the time value of the embedded call option. To compute the notional value of the refinancing threshold, researchs have traditionally relied on a discrete option-pricing model. Using a unique loan level dataset that links homeowner attributes with property and loan characteristics, this study proposes an alternative approach of estimating the implied value of the refinancing threshold. This empirical method enables us to measure the minimum interest rate differential needed to justify refinancing conditional on the borrower's creditworthiness, remaining maturity, and other observable characteristics.

Keywords: Interest rates; Mortgages;

JEL Classification: G21; G13;

Bibliographic Information

Provider: Federal Reserve Bank of New York

Part of Series: Staff Reports

Publication Date: 1998-10-01

Number: 49

Pages: 29 pages

Note: For a published version of this report, see Paul Bennett, Richard Peach, and Stavros Peristiani, "Implied Mortgage Refinancing Thresholds," Real Estate Economics28, no.3 (fall 2000): 405-34.