The Causal Effect of Mortgage Refinancing on Interest-Rate Volatility: Empirical Evidence and Theoretical Implications
November 17, 2005
This paper investigates the effects of mortgage-backed securities (MBS) hedging activity on interest-rate volatility and proposes a model that takes these effects into account. An empirical examination suggests that the inclusion of information about MBS considerably improves model performance in pricing interest-rate options and in forecasting future interest-rate volatility. The empirical results are consistent with the hypothesis that MBS hedging affects both the interest-rate volatility implied by options and the actual interest-rate volatility. The results also indicate that the inclusion of information about the MBS universe may result in models that better describe the price of fixed-income securities.
Number of Pages in PDF File: 57
Keywords: Mortgage-backed securities, interest-rate volatility
JEL Classification: G12, G13, G14, G21
Date posted: July 22, 2004