Convergence Studies on Monte Carlo Methods for Pricing Mortgage-Backed Securities

Mortgage Backed Securities (MBS) had been a very popular and successful financial product until the sub-prime mortgages triggered the recent financial crisis in 2007. In this presentation, we will introduce varies of MBS products, such as Pass-Through, CMO, PAC, etc. and discuss the risks associated with the MBS products. In addition, we will investigate the pricing methods for MBS bonds and related products. We consider the convergence on Monte Carlo methods for pricing MBS bonds and their Option Adjusted Spread (OAS), duration and convexity. Two types of convergence, relative convergence and absolute convergence are introduced while using the Monte Carlo methods. We propose a Monte Carlo method using the relative convergence. Our results indicate that the computational time can be reduced by up to 95%.