The Public Securities Association PSA Prepayment Standard

In the pass-through market, the CPR is the standard unit of measurement. However, pass-throughs are regularly "structured" into CMOs—series of bonds that are solely paid by cash flows from the underlying pass-through (commonly referred to as "collateral," which is why market jargon now uses collateral as a synonym for pass-throughs). In that application, it is not appropriate to assume a constant CPR because newly issued loans and pools tend to exhibit very small prepayments. Indeed, the likelihood of prepayment increases as the loans age; this process is called seasoning. We discuss it at greater length below, along with the other determinants of prepayments.

Recognizing the need for a prepayment standard that incorporates seasoning and that could be used to quantify prepayments of principal for the sole purpose of pricing and analyzing CMOs,12 MBS research analysts from the various broker-dealers represented by the Bond Market Association (BMA, formerly the Public Securities Association) tackled the problem in the mid-1980s. The result is called the PSA prepayment standard.13 It calls for a series (or vector) of CPRs

  1. Historical prepayments on pass-throughs may be calculated as PSAs, as they are on CMOs, but the numbers are only meaningful in reference to CMO pricing assumptions and to compare specific collateral behind a CMO to a more general pass-through universe. The pass-through market focuses on recent and projected CPRs.
  2. Sometimes the PSA standard is called a model, but this is inflationary language. It was barely based on empirical evidence for FHA loans two decades ago. Today it is convenient rather than reflective of any actual pass-through prepayment behavior. The name (PSA standard) comes from the Public Securities Association, the previous name of the BMA.

EXHIBIT 3-4

Cash Flows on Sample Pool at 60 CPR

Prepayment Assumptions

1 12 24 36 48 60 72 84 96 108 120 132 144 □ Scheduled Principal ■ Interest H Prepayments ■ Servicing

EXHIBIT 3-5

PSA CMO Structuring Prepayment Assumption 25

20 15

0 30 60 90 120 150 180 210 240 270 300 330 360 -100% PSA -350% PSA

defined for 360 months: At month 0, the corresponding CPR is 0. It rises linearly 0.2CPR per month to month 30 (this is called the ramp), and from month 30 to month 360, it is 6%. This CPR path is 100% of the PSA standard, commonly written as 100PSA. It is compared, in Exhibit 3-5, to 350PSA. At 350PSA, the CPR defined for each month is multiplied by 3.5. The average age of the collateral is used to map the appropriate multiples of PSA; that is, if the collateral has an average age of three months, the CPR for month 4 is the first used in cash-flow projections. Exhibit 3-6 illustrates projected scheduled principal, prepayments,

EXHIBIT 3-6

Cash Flows on Sample Pool at 165PSA 14,000 12,000 10,000 8,000 6,000 4,000 2,000 0

1 60 119 178 237 296 355

□ Scheduled Principal H Prepayments a Interest □ Servicing

EXHIBIT 3-5

PSA CMO Structuring Prepayment Assumption 25

20 15

Psa Prepayment

0 30 60 90 120 150 180 210 240 270 300 330 360 -100% PSA -350% PSA

Bond Payment Chart Prepayment Speed

interest, and servicing on pool defined in Exhibit 3-1 at a reasonable pricing speed of 165PSA. The CPR in month 1 is 1.32% (4 x 0.02 x 1.65).

Using the PSA standard to structure the CMO bonds allows the principal payments to "ramp up" as the collateral ages. If a constant CPR had been used, it would project that the largest payment to bondholders would be received in the first month (as Exhibits 3-3 and 3-4 illustrate). Since CMOs are priced as the present value of those cash flows, a bondholder would overpay when cash flows are projected at a CPR because there is little likelihood that paydowns in the first month would be the largest generated by new collateral.

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Responses

  • Katrin Durr
    What is 100% PSA in mbs prepayments?
    6 years ago
  • innocenzo
    Who is "Public Securities Association"?
    6 years ago
  • stefan
    How to calculate public securities association?
    6 years ago
  • Albertino
    How is Public Securities Association Standard Prepayment calculated?
    10 months ago

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