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Answer: A decrease in the average loan-to-value ratio of the mortgage pool
## Explanation **B is correct.** A decrease in the average loan-to-value (LTV) ratio means homeowners have more equity in their properties. This makes it easier for them to refinance their mortgages or make partial prepayments (curtailments), which increases prepayment rates. **A is incorrect.** A decrease in defaults typically reduces prepayments because fewer homeowners are forced to sell their properties due to financial distress. **C is incorrect.** An increase in market interest rates makes refinancing less attractive, as homeowners would not want to refinance into higher-rate mortgages, thus decreasing prepayment activity. **D is incorrect.** An increase in the supply of newly built housing decreases the value of existing homes, reducing homeowners' equity and making it more difficult to refinance or access home equity, which slows down prepayment activity.
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A market risk team at a hedge fund is developing stress test scenarios to assess the impact of changes in different market variables on the fund's portfolio of agency-backed MBS. The team wants to identify potential factors that would likely cause the rate of prepayments on the MBS portfolio to increase. Holding all else constant, which of the following would most likely result in increased prepayments in the portfolio?
A
A decrease in defaults experienced in the mortgage pool
B
A decrease in the average loan-to-value ratio of the mortgage pool
C
An increase in market interest rates
D
An increase in the supply of newly built housing
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