An Empirical Investigation of the Contingent-Claims Approach to Pricing Residential Mortgage Debt

Despite the growth of theoretical mortgage-pricing research, few empirical tests have been published. The primary objective of this paper is to provide an empirical test of the contingent-claims approach to pricing residential mortgages. This is accomplished by examining the differences between contract mortgage rates generated by the theoretical contingent-claims model and corresponding actual rates observed for 121 consecutive months from January 1981 through January 1991. We find that the contingent-claims model produces an unbiased prediction of changes in actual rates.