As intuitively expected, higher vol

As intuitively expected, higher volatility and higher prepayment rates will typically mean increased risks to the lender (workout risk, prepayment risk). This will result in charging a higher contract rate i up front. However, for realistic market parameter values, increases of contract rate i are moderate rather than dramatic (e.g. increase by up to 0.1 percent on average, when rates are in the range of 10 percent). Furthermore, these increases can be further moderated by introducing early prepayment penalties, as is practiced in most mortgage contracts. Fig. 7 illustrates this point further by plotting combinations of early prepayment parameters a and b for different levels of prepayment intensity , for which the contract rate i of a Continuous Workout Mortgage remains “preserved”, i.e. equal to i=10 percent.