What is Prepayment Speed?
Prepayment speed measures how quickly borrowers are returning principal early. Faster prepayment speed shortens WAL, accelerates premium amortization (reducing yield on premium-priced pools), and returns principal sooner. Prepayment speed is driven by refinancing incentive (rate-driven), housing turnover (move-related), curtailments (extra principal payments), and for government-guaranteed loans, defaults (which return principal at par). Speed is expressed as CPR (annualized) or SMM (monthly). Historical speeds are reported by servicers; projected speeds come from prepayment models. The interaction between prepayment speed and purchase price is the fundamental risk/return tradeoff in whole loan investing.
How LoanBook Uses Prepayment Speed
LoanBook projects prepayment speed using the Prepay Model, which incorporates refinancing incentive (S-curve), seasoning, burnout, FICO, LTV, geography, and sector-specific factors. The OAS engine uses rate-dependent speeds on Monte Carlo paths.
Frequently Asked Questions
Is faster prepayment good or bad?
It depends on the purchase price. For premium pools (bought above par), faster prepayment is bad; you get par back sooner on a loan you paid more than par for. For discount pools (bought below par), faster prepayment is good; you receive par sooner on a loan you bought cheaply. At par, prepayment speed mainly affects WAL and reinvestment risk.
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