GLENN M. SCHULTZ is the Director of mortgage analytics for Performance Trust Capital Partners. He co-edited (with Frank Fabozzi) Structured Products and Related Credit Derivatives (Wiley), as well as authored several chapters in the Handbook of MBS Securities and The Handbook of Fixed Income Securities.

• Foreword iiiAcknowledgments vIntroduction ixPreface xixPart I Valuation of Fixed Income Securities 1Chapter 1 The Time Value of Money 31.1 Present Value 41.2 Future Value 51.3 Present Value of an Annuity 61.4 Future Value of an Annuity 71.5 Solving Financial Questions with Present and Future Value 81.6 Application to Fixed Income Securities 9Chapter 2 Theories of the Term Structure of Interest Rates 112.1 The Rational or Pure Expectations Hypothesis 132.2 The Market Segmentation Theory 172.3 The Liquidity Preference Theory 172.4 Modeling the Term Structure of Interest Rates 192.5 Application of Spot and Forward Rates 21Chapter 3 Fixed Income Metrics 273.1 Maturity 283.2 Yield to Maturity 283.3 Weighted Average Life 343.4 Duration 363.4.1 Macaulay Duration 373.4.2 Modified Duration 393.5 Convexity 423.6 Fisher-Weil Duration and Convexity 453.7 Effective Duration 513.8 Effective Convexity 533.9 Summing the Aforementioned Measures of Duration and Convexity 543.10 Key Rate Duration 55Chapter 4 The Valuation of Fixed Income Securities 594.1 A Valuation Framework for Fixed Income Securities 604.2 Application of the Framework to Structured Securities 614.3 Twist and Shift: Characterizing Changes in the Level, Steepness, and Curvature of the Term Structure 634.4 Case Study: 4.00% 30-year MBS 654.5 Scenario Comparative Analysis 74Chapter 5 Fixed Income Return Analysis 775.1 Return Strategies 785.2 The Components of Return 805.3 The Buy and Hold Strategy 805.4 Total and Absolute Returns 835.5 Deconstructing the Fixed Income Return Profile 845.6 Estimating Bond Returns with Price and Risk Measures 86Part II Residential Mortgage Backed Securities 89Chapter 6 Understanding Mortgage Lending and Loans 916.1 Classification of Real Estate 926.2 Residential Mortgage Loan Amortization 1006.3 Deconstructing the Amortization Table 1036.4 Mortgage Servicing 104Chapter 7 Modeling Cash Flows 1077.1 Prepayment Conventions 1087.2 Modeling MBS Cash Flows 1117.2.1 0% PPC Assumption - No Prepayment 112Chapter 8 Mortgage Prepayment Analysis 1178.1 Big Data - What is it? 1188.2 The Statistical Learner 1188.3 Survival Analysis 1208.4 The Cox Proportional Hazards Model 1258.5 Data Types 1278.6 Case Study: FHLMC 30-yr Loan Level Prepayment Analysis 1288.7 Survival Analysis - Modeling Loan Cohorts 139Chapter 9 The Predictive Prepayment Model 1459.1 Turnover 1479.2 Loan Seasoning 1479.3 Seasonality 1499.4 Borrower Incentive to Refinance 1509.5 Borrower Burnout 1539.6 Application of the Prepayment Model 162Part III Valuation of Mortgage Backed Securities 167Chapter 10 Mortgage Dollar Roll 16910.1 Evaluating the Dollar Roll 17110.2 Risk Associated with the Dollar Roll 179Chapter 11 Relative Value Analysis 18311.1 Liquidity 18411.2 Static Cash Flow Analysis 18511.3 Return Analysis 189Chapter 12 Option Adjusted Spread Analysis 19712.1 Numerical Methods of Modern Financial Theory 19912.2 Cox, Ingersoll, Ross Theory of the Term Structure 20112.3 Calibrating the Model 20612.4 Building the Option Adjusted Spread (OAS) Model 20812.5 OAS Analysis as a Decision Making Tool 21612.6 OAS Distribution Analysis 21912.7 OAS Analysis Strengths and Limitations 225Part IV Structuring Mortgage Backed Securities 227Chapter 13 Introduction to REMICs 22913.1 Background and Legal Structure 23013.2 Two Tiered REMICs 23413.3 REMIC Arbitrage 23513.4 Bond Lab MBS Structuring Model 237Chapter 14 Stripped Mortgage Backed Securities 23914.1 Key Rate Duration Analysis 24314.2 Option Adjusted Spread Analysis 24514.3 The Information Content of the IO-PO Market 249Chapter 15 Sequentially Structured REMIC 25515.1 Key Rate Duration Analysis 25915.2 Option Adjusted Spread Analysis 26115.3 Weighted Average Life and Spot Spread Analysis 26115.4 Static Cash Flow Analysis 266Chapter 16 Planned Amortization Class (PAC) and Companion REMICs 26916.1 The PAC Bond Sinking Fund Schedule 27016.2 Key Rate Duration Analysis 27716.3 Option Adjusted Spread Analysis 27916.4 OAS Distribution Analysis 28016.5 A Final Word Regarding PAC Bands 28416.6 Static Cash Flow Analysis 285Chapter 17 Sequential IO REMIC 28717.1 Key Rate Duration Analysis 29017.2 OAS Distribution Analysis 292Chapter 18 PAC-Floater-Inverse Floater REMIC 29518.1 Structuring the Floater and Inverse Floater 29618.2 A Framework for Floating Rate Securities 30118.3 Option Adjusted Spread Analysis 30418.4 Key Rate Duration Analysis 304Chapter 19 Accrual REMIC Z-bond 31119.1 Key Rate Duration Analysis 31719.2 Option Adjusted Spread Analysis 318Part V Mortgage Credit Analysis 323Chapter 20 Mortgage Default Modeling 32520.1 Case Study FHLMC 30-year Default Analysis 32720.2 Other Variables Influencing Borrower Default 33520.3 Spread at Origination (SATO) and Default 34020.4 Default Model Selection 340Chapter 21 The Predictive Default Model 34521.1 Constant Default Rate 34721.2 Borrower Original Loan to Value Default Multiplier 34821.3 Updated Loan to Value Default Multiplier 34921.4 Spread at Origination (SATO) Default Multipliers 35121.5 Completing the Prepayment Model 353Chapter 22 The Basics of Private Label MBS 35722.3 Y Structure 35922.4 Shifting Interest 36222.5 Deep Mortgage Insurance MI 36322.6 Excess Interest 36522.7 Overcollateralization 36622.8 Structural Credit Protection 36622.9 Hedging Asset/Liability Mismatches 369Chapter 23 Sizing Mortgage Credit Enhancement 37323.1 Simulating Borrower Default Rates 37523.2 Estimation of Cumulative Default Rates 37523.3 Translating Credit Enhancement to a Third Party Guarantee Fee 37823.4 Role of the Credit Rating Agencies (NRSROs) 379Chapter 24 Index 383

GLENN M. SCHULTZ is the Director of mortgage analytics for Performance Trust Capital Partners. He co-edited (with Frank Fabozzi) Structured Products and Related Credit Derivatives (Wiley), as well as authored several chapters in the Handbook of MBS Securities and The Handbook of Fixed Income Securities.

• Foreword iiiAcknowledgments vIntroduction ixPreface xixPart I Valuation of Fixed Income Securities 1Chapter 1 The Time Value of Money 31.1 Present Value 41.2 Future Value 51.3 Present Value of an Annuity 61.4 Future Value of an Annuity 71.5 Solving Financial Questions with Present and Future Value 81.6 Application to Fixed Income Securities 9Chapter 2 Theories of the Term Structure of Interest Rates 112.1 The Rational or Pure Expectations Hypothesis 132.2 The Market Segmentation Theory 172.3 The Liquidity Preference Theory 172.4 Modeling the Term Structure of Interest Rates 192.5 Application of Spot and Forward Rates 21Chapter 3 Fixed Income Metrics 273.1 Maturity 283.2 Yield to Maturity 283.3 Weighted Average Life 343.4 Duration 363.4.1 Macaulay Duration 373.4.2 Modified Duration 393.5 Convexity 423.6 Fisher-Weil Duration and Convexity 453.7 Effective Duration 513.8 Effective Convexity 533.9 Summing the Aforementioned Measures of Duration and Convexity 543.10 Key Rate Duration 55Chapter 4 The Valuation of Fixed Income Securities 594.1 A Valuation Framework for Fixed Income Securities 604.2 Application of the Framework to Structured Securities 614.3 Twist and Shift: Characterizing Changes in the Level, Steepness, and Curvature of the Term Structure 634.4 Case Study: 4.00% 30-year MBS 654.5 Scenario Comparative Analysis 74Chapter 5 Fixed Income Return Analysis 775.1 Return Strategies 785.2 The Components of Return 805.3 The Buy and Hold Strategy 805.4 Total and Absolute Returns 835.5 Deconstructing the Fixed Income Return Profile 845.6 Estimating Bond Returns with Price and Risk Measures 86Part II Residential Mortgage Backed Securities 89Chapter 6 Understanding Mortgage Lending and Loans 916.1 Classification of Real Estate 926.2 Residential Mortgage Loan Amortization 1006.3 Deconstructing the Amortization Table 1036.4 Mortgage Servicing 104Chapter 7 Modeling Cash Flows 1077.1 Prepayment Conventions 1087.2 Modeling MBS Cash Flows 1117.2.1 0% PPC Assumption - No Prepayment 112Chapter 8 Mortgage Prepayment Analysis 1178.1 Big Data - What is it? 1188.2 The Statistical Learner 1188.3 Survival Analysis 1208.4 The Cox Proportional Hazards Model 1258.5 Data Types 1278.6 Case Study: FHLMC 30-yr Loan Level Prepayment Analysis 1288.7 Survival Analysis - Modeling Loan Cohorts 139Chapter 9 The Predictive Prepayment Model 1459.1 Turnover 1479.2 Loan Seasoning 1479.3 Seasonality 1499.4 Borrower Incentive to Refinance 1509.5 Borrower Burnout 1539.6 Application of the Prepayment Model 162Part III Valuation of Mortgage Backed Securities 167Chapter 10 Mortgage Dollar Roll 16910.1 Evaluating the Dollar Roll 17110.2 Risk Associated with the Dollar Roll 179Chapter 11 Relative Value Analysis 18311.1 Liquidity 18411.2 Static Cash Flow Analysis 18511.3 Return Analysis 189Chapter 12 Option Adjusted Spread Analysis 19712.1 Numerical Methods of Modern Financial Theory 19912.2 Cox, Ingersoll, Ross Theory of the Term Structure 20112.3 Calibrating the Model 20612.4 Building the Option Adjusted Spread (OAS) Model 20812.5 OAS Analysis as a Decision Making Tool 21612.6 OAS Distribution Analysis 21912.7 OAS Analysis Strengths and Limitations 225Part IV Structuring Mortgage Backed Securities 227Chapter 13 Introduction to REMICs 22913.1 Background and Legal Structure 23013.2 Two Tiered REMICs 23413.3 REMIC Arbitrage 23513.4 Bond Lab MBS Structuring Model 237Chapter 14 Stripped Mortgage Backed Securities 23914.1 Key Rate Duration Analysis 24314.2 Option Adjusted Spread Analysis 24514.3 The Information Content of the IO-PO Market 249Chapter 15 Sequentially Structured REMIC 25515.1 Key Rate Duration Analysis 25915.2 Option Adjusted Spread Analysis 26115.3 Weighted Average Life and Spot Spread Analysis 26115.4 Static Cash Flow Analysis 266Chapter 16 Planned Amortization Class (PAC) and Companion REMICs 26916.1 The PAC Bond Sinking Fund Schedule 27016.2 Key Rate Duration Analysis 27716.3 Option Adjusted Spread Analysis 27916.4 OAS Distribution Analysis 28016.5 A Final Word Regarding PAC Bands 28416.6 Static Cash Flow Analysis 285Chapter 17 Sequential IO REMIC 28717.1 Key Rate Duration Analysis 29017.2 OAS Distribution Analysis 292Chapter 18 PAC-Floater-Inverse Floater REMIC 29518.1 Structuring the Floater and Inverse Floater 29618.2 A Framework for Floating Rate Securities 30118.3 Option Adjusted Spread Analysis 30418.4 Key Rate Duration Analysis 304Chapter 19 Accrual REMIC Z-bond 31119.1 Key Rate Duration Analysis 31719.2 Option Adjusted Spread Analysis 318Part V Mortgage Credit Analysis 323Chapter 20 Mortgage Default Modeling 32520.1 Case Study FHLMC 30-year Default Analysis 32720.2 Other Variables Influencing Borrower Default 33520.3 Spread at Origination (SATO) and Default 34020.4 Default Model Selection 340Chapter 21 The Predictive Default Model 34521.1 Constant Default Rate 34721.2 Borrower Original Loan to Value Default Multiplier 34821.3 Updated Loan to Value Default Multiplier 34921.4 Spread at Origination (SATO) Default Multipliers 35121.5 Completing the Prepayment Model 353Chapter 22 The Basics of Private Label MBS 35722.3 Y Structure 35922.4 Shifting Interest 36222.5 Deep Mortgage Insurance MI 36322.6 Excess Interest 36522.7 Overcollateralization 36622.8 Structural Credit Protection 36622.9 Hedging Asset/Liability Mismatches 369Chapter 23 Sizing Mortgage Credit Enhancement 37323.1 Simulating Borrower Default Rates 37523.2 Estimation of Cumulative Default Rates 37523.3 Translating Credit Enhancement to a Third Party Guarantee Fee 37823.4 Role of the Credit Rating Agencies (NRSROs) 379Chapter 24 Index 383

GLENN M. SCHULTZ is the Director of mortgage analytics for Performance Trust Capital Partners. He co-edited (with Frank Fabozzi) Structured Products and Related Credit Derivatives (Wiley), as well as authored several chapters in the Handbook of MBS Securities and The Handbook of Fixed Income Securities.

• Foreword iiiAcknowledgments vIntroduction ixPreface xixPart I Valuation of Fixed Income Securities 1Chapter 1 The Time Value of Money 31.1 Present Value 41.2 Future Value 51.3 Present Value of an Annuity 61.4 Future Value of an Annuity 71.5 Solving Financial Questions with Present and Future Value 81.6 Application to Fixed Income Securities 9Chapter 2 Theories of the Term Structure of Interest Rates 112.1 The Rational or Pure Expectations Hypothesis 132.2 The Market Segmentation Theory 172.3 The Liquidity Preference Theory 172.4 Modeling the Term Structure of Interest Rates 192.5 Application of Spot and Forward Rates 21Chapter 3 Fixed Income Metrics 273.1 Maturity 283.2 Yield to Maturity 283.3 Weighted Average Life 343.4 Duration 363.4.1 Macaulay Duration 373.4.2 Modified Duration 393.5 Convexity 423.6 Fisher-Weil Duration and Convexity 453.7 Effective Duration 513.8 Effective Convexity 533.9 Summing the Aforementioned Measures of Duration and Convexity 543.10 Key Rate Duration 55Chapter 4 The Valuation of Fixed Income Securities 594.1 A Valuation Framework for Fixed Income Securities 604.2 Application of the Framework to Structured Securities 614.3 Twist and Shift: Characterizing Changes in the Level, Steepness, and Curvature of the Term Structure 634.4 Case Study: 4.00% 30-year MBS 654.5 Scenario Comparative Analysis 74Chapter 5 Fixed Income Return Analysis 775.1 Return Strategies 785.2 The Components of Return 805.3 The Buy and Hold Strategy 805.4 Total and Absolute Returns 835.5 Deconstructing the Fixed Income Return Profile 845.6 Estimating Bond Returns with Price and Risk Measures 86Part II Residential Mortgage Backed Securities 89Chapter 6 Understanding Mortgage Lending and Loans 916.1 Classification of Real Estate 926.2 Residential Mortgage Loan Amortization 1006.3 Deconstructing the Amortization Table 1036.4 Mortgage Servicing 104Chapter 7 Modeling Cash Flows 1077.1 Prepayment Conventions 1087.2 Modeling MBS Cash Flows 1117.2.1 0% PPC Assumption - No Prepayment 112Chapter 8 Mortgage Prepayment Analysis 1178.1 Big Data - What is it? 1188.2 The Statistical Learner 1188.3 Survival Analysis 1208.4 The Cox Proportional Hazards Model 1258.5 Data Types 1278.6 Case Study: FHLMC 30-yr Loan Level Prepayment Analysis 1288.7 Survival Analysis - Modeling Loan Cohorts 139Chapter 9 The Predictive Prepayment Model 1459.1 Turnover 1479.2 Loan Seasoning 1479.3 Seasonality 1499.4 Borrower Incentive to Refinance 1509.5 Borrower Burnout 1539.6 Application of the Prepayment Model 162Part III Valuation of Mortgage Backed Securities 167Chapter 10 Mortgage Dollar Roll 16910.1 Evaluating the Dollar Roll 17110.2 Risk Associated with the Dollar Roll 179Chapter 11 Relative Value Analysis 18311.1 Liquidity 18411.2 Static Cash Flow Analysis 18511.3 Return Analysis 189Chapter 12 Option Adjusted Spread Analysis 19712.1 Numerical Methods of Modern Financial Theory 19912.2 Cox, Ingersoll, Ross Theory of the Term Structure 20112.3 Calibrating the Model 20612.4 Building the Option Adjusted Spread (OAS) Model 20812.5 OAS Analysis as a Decision Making Tool 21612.6 OAS Distribution Analysis 21912.7 OAS Analysis Strengths and Limitations 225Part IV Structuring Mortgage Backed Securities 227Chapter 13 Introduction to REMICs 22913.1 Background and Legal Structure 23013.2 Two Tiered REMICs 23413.3 REMIC Arbitrage 23513.4 Bond Lab MBS Structuring Model 237Chapter 14 Stripped Mortgage Backed Securities 23914.1 Key Rate Duration Analysis 24314.2 Option Adjusted Spread Analysis 24514.3 The Information Content of the IO-PO Market 249Chapter 15 Sequentially Structured REMIC 25515.1 Key Rate Duration Analysis 25915.2 Option Adjusted Spread Analysis 26115.3 Weighted Average Life and Spot Spread Analysis 26115.4 Static Cash Flow Analysis 266Chapter 16 Planned Amortization Class (PAC) and Companion REMICs 26916.1 The PAC Bond Sinking Fund Schedule 27016.2 Key Rate Duration Analysis 27716.3 Option Adjusted Spread Analysis 27916.4 OAS Distribution Analysis 28016.5 A Final Word Regarding PAC Bands 28416.6 Static Cash Flow Analysis 285Chapter 17 Sequential IO REMIC 28717.1 Key Rate Duration Analysis 29017.2 OAS Distribution Analysis 292Chapter 18 PAC-Floater-Inverse Floater REMIC 29518.1 Structuring the Floater and Inverse Floater 29618.2 A Framework for Floating Rate Securities 30118.3 Option Adjusted Spread Analysis 30418.4 Key Rate Duration Analysis 304Chapter 19 Accrual REMIC Z-bond 31119.1 Key Rate Duration Analysis 31719.2 Option Adjusted Spread Analysis 318Part V Mortgage Credit Analysis 323Chapter 20 Mortgage Default Modeling 32520.1 Case Study FHLMC 30-year Default Analysis 32720.2 Other Variables Influencing Borrower Default 33520.3 Spread at Origination (SATO) and Default 34020.4 Default Model Selection 340Chapter 21 The Predictive Default Model 34521.1 Constant Default Rate 34721.2 Borrower Original Loan to Value Default Multiplier 34821.3 Updated Loan to Value Default Multiplier 34921.4 Spread at Origination (SATO) Default Multipliers 35121.5 Completing the Prepayment Model 353Chapter 22 The Basics of Private Label MBS 35722.3 Y Structure 35922.4 Shifting Interest 36222.5 Deep Mortgage Insurance MI 36322.6 Excess Interest 36522.7 Overcollateralization 36622.8 Structural Credit Protection 36622.9 Hedging Asset/Liability Mismatches 369Chapter 23 Sizing Mortgage Credit Enhancement 37323.1 Simulating Borrower Default Rates 37523.2 Estimation of Cumulative Default Rates 37523.3 Translating Credit Enhancement to a Third Party Guarantee Fee 37823.4 Role of the Credit Rating Agencies (NRSROs) 379Chapter 24 Index 383