Factors Affecting Mortgage Prepayment in Hong Kong
Pacific Rim Real Estate Society
Download Document| Date Published | 2000 |
| Version | |
| Primary Author | K W Chau, F. Pretorius, and W.M. So |
| Other Authors | |
| Theme | |
| Country | Hong Kong SAR, China |
Abstract
This paper presents a quantitative analysis of prepayment data based on the historical prepayment experience of two banks in Hong Kong. One of the most distinctive features of mortgages as an asset class is the existence of prepayment risk. Research in prepayment has matured into a coherent body of work that has a sound theoretical framework and consistent empirical validation. Previous research in prepayment has identified certain important causes for prepayment. However, most studies on prepayment were based on fixed-rate mortgages in the USA, while little work on variable-rate mortgages and even less work on prepayment in other countries has been conducted. In this paper, the prepayment pattern of variable-rate mortgages in Hong Kong are examined. Following the logic of the option-based/optimal model, certain variables have been identified for inclusion in an empirical model on prepayment. As variable-rate mortgages are the custom in Hong Kong, it is considered that there will not be a refinancing incentive with decreases in interest rates as in the case with fixed-rate mortgages. In this study, interest rates are however found to be an important determinant of prepayment, with prepayments sensitive to real interest rates and borrowers sensitive to the prospect of an increase in interest rates. The explanation proposed for this behaviour is consistent with findings in the field of quasi-rational and behavioural economics. It is thus considered fruitful to incorporate concepts from this field into mortgage prepayment research.