The Sub-Prime Mortgage Debacle and What We Can Learn from Mathematical Programs‪.‬

Abstract In this paper we discuss mathematical programming methods for insurance companies, mutual fund managers, and banks to match cash flow and liabilities. We focus on mortgage-backed securities, and methods for using them for asset allocation. Given the recent and ongoing sub-prime mortgage debacle, it is imperative that the conscientious and conservative investor use robust mathematical models to decide whether to hold or sell their current investments, or to invest in other portfolios, instead of making such decisions without careful consideration. We first discuss the difference between a deterministic and stochastic instrument, then describe a linear programming model for allocating bonds deterministically, and then, as in the case of mortgage-backed securities, stochastically.