Which one of the following is required for the cash flows on a PAC bond to be predictable?

Question

Quizplus · Accepted Answer

PAC bonds have a feature called a PAC collar, which is a range of mortgage prepayment speeds (usually based on the PSA prepayment model) that can be absorbed by the structure without affecting the timing or amount of cash flows to investors. If prepayments remain within the PAC collar, cash flows on a PAC bond will be predictable. Choice A is incorrect because if market interest rates change, the price of the underlying mortgages will change, affecting prepayment speeds and cash flows to investors. Choice B is incorrect because declining interest rates usually lead to faster prepayment speeds, which can disrupt the predictability of cash flows. Choice D is incorrect because prepaying PAC support bonds in a timely manner does not affect the timing or amount of cash flows to investors on the PAC bond. Choice E is incorrect because prepayments exceeding the specified PSA schedule can disrupt the predictability of cash flows by creating higher or lower than expected levels of principal payments.

Which One of the Following Is Required for the Cash