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Example Questions from the Exam Fact CFA Level 2 Book:

Define Conditional Prepayment Rate (CPR)

CPR is the annual rate at which a mortgage pool is expected to be prepaid. This is a generic term fot rate of prepayment; no specific schedule.

Define Public Securities Association (PSA)

The PSA prepayment benchmark is a specific assumption about mortgage pool prepayment rates. PSA assumes mortgage pool monthly prepayments start at 0.2% annual rate and increase by 0.2% each month for the first 30 months of the life of the pool (after month 30, the prepayment rate is constant at 6%).

Define Single Monthly Mortality Rate (SMM)

The PSA is stated in annual terms (i.e., pool will prepay in month 1 at a 0.2% annual rate). You can convert the annual rate to a monthly percentage with the following formulas:

SMM = 1 - (1-CPR)^1/12

Other formulas:

SMM = ABS / [1 - (ABS * (Mo -1))]

ABS = SMM / [1 + (SMM * (Mo -1))]

Define MBS Speed of Prepayment Three Factors

(1) Prevailing Mortgage Rates

(2) Housing Turnover

(3) Characteristics of Underlying Mortgages (Seasoning and Property Location)