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Int. J. Financial Stud. 2017, 5(1), 10; doi:10.3390/ijfs5010010

What Should You Pay to Cap your ARM?—A Note on Capped Adjustable Rate Mortgages

Department of Mathematical Sciences, University of Copenhagen, Universitetsparken 5, 2100 Copenhagen, Denmark
Academic Editor: Nicholas Apergis
Received: 6 January 2017 / Accepted: 23 February 2017 / Published: 6 March 2017
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Abstract

In this paper, an Adjustable Rate Mortgage (ARM) and a Fixed Rate Mortgage (FRM) are formalized and studied in a simple continuous-time setting under the assumption of a simple one-factor Affine Term Structure (ATS). Through an application of existing results from ATS theory, it is shown that when the short rate reaches a certain pre-determined boundary, the constant payment stream on a new FRM equals the payments on an existing ARM. Hereby, this paper provides a theoretical build-in cap on the formalized ARM. The finite boundary for the short-rate suggests that certain caps on ARMs should (in theory) be offered free of charge. View Full-Text
Keywords: capped adjustable rate mortgages; one-factor short rate models; affine term structures capped adjustable rate mortgages; one-factor short rate models; affine term structures
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This is an open access article distributed under the Creative Commons Attribution License which permits unrestricted use, distribution, and reproduction in any medium, provided the original work is properly cited. (CC BY 4.0).

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MDPI and ACS Style

Nordfang, M.-B. What Should You Pay to Cap your ARM?—A Note on Capped Adjustable Rate Mortgages. Int. J. Financial Stud. 2017, 5, 10.

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Int. J. Financial Stud. EISSN 2227-7072 Published by MDPI AG, Basel, Switzerland RSS E-Mail Table of Contents Alert
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