Appropriate Discounting Methodology - Servicing Insights Vol. 4 - Risk Management Part 1

shutterstock_417113860Wouldn’t it be great if there was a single “best yield” or “best spread” methodology that will always determine the “one true” yield or spread for MSRs?

We will cover one of the biggest debates in determining the value of MSRs: What is the best method to convert a stream of expected cash flows into a price, or value of that stream?

This note is the fourth in a continuing series focusing on particular aspects of mortgage servicing valuation and modeling. The series discusses issues such as delinquencies, prepayments, risks, etc. and how a servicing model and analyst of servicing ought to approach these issues.

For this issue, we begin a three-part discussion of static vs dynamic returns, and the impact on the price of servicing.

In this blog, we will focus on “What is the Appropriate Discounting Methodology? – Servicing Insights Vol. 4” which covers the basics of cash flow return analysis and reviewing static vs. dynamic yield.

Servicing Insights and Strategies for Success

The series explains detailed aspects of servicing valuation & modeling for experienced mortgage bankers.

These strategies are defined by our industry veteran and author of the Servicing Insights series, Phil Laren.  We are proud to make the insights of our servicing and modeling expert available through the Servicing Insights series. Phil Laren leads the MSR services group of MCT, and provides robust software, consulting, and valuation solutions.

We are dedicated to sharing seasoned insights and strategies for success with mortgage professionals everywhere.

Learn About the Relationship Between Risk and Yield

In this volume, we will clarify some of the misconceptions about static and dynamic methods of converting a stream of expected cash flows into a price.

Servicing Insights Volume 4 will compare OAS and static yield as well as review the concept of how yield converts a stream of servicing cash flows into prices. Lastly, we will touch upon alternative investments to determine appropriate yield as we explore the difference between MSRs and IOs.

Learn how static and dynamic methods of return work to manage risk through illustrative examples.

Download Servicing Insights Vol. 4

 

“The most common dynamic method utilized is the Option Adjusted Spread methodology, or “OAS.” There are advantages and disadvantages to each, as well as misconceptions about both throughout the world of finance, accounting, and regulation. This servicing notes publication will attempt to clarify some of the misconceptions, by examining the two methods, both for fixed income valuation in general, and specifically in valuing MSRs. ” – Excerpt from Servicing Insights Vol. 4

 

About The Author – Phil Larenphil_laren-1-1

Phil Laren has 29 years experience in all aspects of servicing, modeling, pricing, trading, negotiating, hedging, risk analysis, accounting analysis and operations.

He created the Desktop Servicing Model that has helped countless Mortgage Banking professionals make the right decisions in their servicing valuations.

In this volume he explains prepayments in servicing valuation.

Read Servicing Insights Vol. 4: What is the Appropriate Discounting Methodology?

We hope that this series of Servicing Insights will give you the assurance as a professional to weigh your risks and inform your judgments about discounting methodology.

By utilizing these valuable and practical insights, you can look forward to a measurable difference in the certainty of your servicing decisions that will inform your mortgage servicing rights modeling and retention strategies. Download, read, and learn more from our experts.

Download Servicing Insights Vol. 4

Let us know what you think in the comments!

 

Related Articles