Goldman Sachs claims proprietary leap in MBS options pricing
Goldman Sachs claims it has developed a revolutionary new model for pricing mortgage-backed securities (MBS). Alan Brazil, head of mortgage, ABS and rates research at Goldman Sachs in New York, said the new valuation model enables the increasing correlation between mortgage-backed securities and other fixed-income markets to be factored into options prices.
Goldman began developing a new interest rate term model two years ago. The model incorporates an updated prepayment model, as well as other models, which are designed to capture the interaction of mortgage valuations with other fixed-income markets in an arbitrage-free manner.
Brazil said the new model accommodates the multiple factors that determine MBS options prices, and therefore emphasises the direct, but diverse, response of mortgage obligors to rate incentives and to the ageing of the loans.
The new market-sensitive models are calibrated to swap rates instead of treasury yields – as was used in the earlier methodology. It also incorporates the various volatilities of swaptions with differing expiries, tenors and strikes.
“We believe it was well worth the effort,” said Brazil of the prolonged – and expensive – research and development. The team, headed by Jeremy Primer, Goldman's head of mortgage modelling, comprised four quantitative financial mathematicians, and has closed a “missing hole” in mortgage pricing mathematical technology, according to Brazil.
“There were short cuts we could have taken to get to about 90% of the accuracy we have subsequently achieved,” said Brazil. “But we think that extra 10% of accuracy will reap significant rewards in terms of being able to manage and price MBS risk in the future.”
Only users who have a paid subscription or are part of a corporate subscription are able to print or copy content.
To access these options, along with all other subscription benefits, please contact info@risk.net or view our subscription options here: http://subscriptions.risk.net/subscribe
You are currently unable to print this content. Please contact info@risk.net to find out more.
You are currently unable to copy this content. Please contact info@risk.net to find out more.
Copyright Infopro Digital Limited. All rights reserved.
You may share this content using our article tools. Printing this content is for the sole use of the Authorised User (named subscriber), as outlined in our terms and conditions - https://www.infopro-insight.com/terms-conditions/insight-subscriptions/
If you would like to purchase additional rights please email info@risk.net
Copyright Infopro Digital Limited. All rights reserved.
You may share this content using our article tools. Copying this content is for the sole use of the Authorised User (named subscriber), as outlined in our terms and conditions - https://www.infopro-insight.com/terms-conditions/insight-subscriptions/
If you would like to purchase additional rights please email info@risk.net
More on Markets
Rethinking P&L attribution for options
A buy-side perspective on how to decompose the P&L of index options is presented
Buy side would welcome more guidance on managing margin calls
FSB report calls for regulators to review existing standards for non-bank liquidity management
Citi halves swaptions book with US retail funds
Counterparty Radar: Mutual funds and ETFs cut exposures by 22% in Q4
Who’s winning the €STR futures race? Depends how you measure
CME, Eurex and Ice all claim to be leading, but experts say it’s too early to pick a winner
CDS review seeks to tackle conflicts ‘elephant’
Isda AGM: Linklaters proposes overhaul for determinations committee - including independent members
Saudi Arabia poised to become clean netting jurisdiction
Isda AGM: Netting regulation awaiting final approvals from regulators
Buy side looks to fill talent gap in yen rates trading
Isda AGM: Japan rate rises spark demand for traders; dealers say inexperience could trigger volatility
JP Morgan’s new way to trade FX overlays
Hybrid execution method allows clients to put dealers in competition via a single trading agreement