Question: MBS currently priced at 103 and security expected to generate constant cash flow of $1.28 per month per $100 par for 10 years. Calculate the monthly cash flow yield. Apparently, doing N = 120; PV = -103; PMT = 1.28; FV = 100 and CPT I/Y = 1.232 is incorrect. But excluding the FV (or FV = 0) and CPT I/Y = 0.7128 is the correct answer. Could someone explain why the first method is incorrect?

@vincentt next time just shoot a question this way :)

@vincentt - since this is a MBS, the cashflow repayment include schedule principal repayments, hence FV=0. So at the end of life of an MBS, it should be expected that the whole mortgage is repaid in full. The maturity of MBS is uncertain as there are prepayment risks, i.e. people prepaying more than the minimum amount each month, hence shortening the life of the mortgage. It's always related to bond equivalent yield, so make sure you get these 2 concepts right.

A CFA Level 2 Discussion About Calculate CFY From Given Cash Flow

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This topic has 4 replies, 3 voices, and was last updated Mar-174:54 pm by Sophie Macon.

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- vincentt
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  - CFA Level 3
  25 Mar 2017 at 12:10 pm
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  Question: MBS currently priced at 103 and security expected to generate constant cash flow of $1.28 per month per $100 par for 10 years. Calculate the monthly cash flow yield.
  
  Apparently, doing N = 120; PV = -103; PMT = 1.28; FV = 100 and CPT I/Y = 1.232 is incorrect.
  
  But excluding the FV (or FV = 0) and CPT I/Y = 0.7128 is the correct answer.
  
  Could someone explain why the first method is incorrect?
- christine
  Participant
  25 Mar 2017 at 4:54 pm
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  @vincentt next time just shoot a question this way 🙂
- Sophie Macon
  Keymaster
  25 Mar 2017 at 3:21 pm
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  @vincentt – since this is a MBS, the cashflow repayment include schedule principal repayments, hence FV=0. So at the end of life of an MBS, it should be expected that the whole mortgage is repaid in full.
  
  The maturity of MBS is uncertain as there are prepayment risks, i.e. people prepaying more than the minimum amount each month, hence shortening the life of the mortgage.
  
  It’s always related to bond equivalent yield, so make sure you get these 2 concepts right.
- vincentt
  Participant
  - CFA Level 3
  25 Mar 2017 at 4:49 pm
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  @sophie ahh #-o that’s right principal is included in the monthly payment! That explains the term “diminishing return”, shouldn’t have studied for long hours. thanks Sophie!
- Sophie Macon
  Keymaster
  25 Mar 2017 at 4:54 pm
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  No problem @Vincentt!
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