A mortgage-backed security (MBS) experiences significant prepayment risk. This risk primarily affects investors because:
Correct Answer
C) Principal is returned earlier than expected
Prepayment risk occurs when borrowers pay off their mortgages early (often due to refinancing when rates drop), returning principal to MBS investors sooner than anticipated. This forces investors to reinvest at potentially lower prevailing rates.
Why This Is the Correct Answer
Prepayment risk occurs when borrowers pay off their mortgages early (often due to refinancing when rates drop), returning principal to MBS investors sooner than anticipated. This forces investors to reinvest at potentially lower prevailing rates.
More Mortgage Knowledge Questions
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