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We ask whether the correlation between mortgage leverage and default is due to moral hazard (the causal effect of leverage) or adverse selection (ex ante risky borrowers choosing larger loans). We separate these information asymmetries using a natural experiment resulting from the contract structure of option adjustable-rate mortgages and unexpected 2008 divergence of indexes that determine rate adjustments. Our point estimates suggest that moral hazard is responsible for 40 |$\%$| of the correlation in our sample, while adverse selection explains 60 |$\%$|⁠. We calibrate a simple model to show that leverage regulation must weigh default prevention against distortions due to adverse selection. [ABSTRACT FROM AUTHOR]

Prophet (pbuh) brought humanity with the required teachings in all fields of life. Among these teachings are a number of economic principles with the goal of preventing unjustified earnings. Proving the actuality and appropriateness of these prophetic guidances these are as important as their determination. This is because in today’s world the economic and financial life has been quite developed. In this study we want to examine the chain of events that gained momentum in the United States of America in 2008 and made its impact felt not only in the USA but also all over the world in the following years, and which is described by economists as the greatest financial crisis and economic recession that occurred after the Great Depression in 1929 in order to demonstrate the current value of prophetic teachings in the economic field. In our examination the analyses and evaluations of the American economists related to the crisis were taken into consideration. This way, the consequences caused by the violation of the economic orders in the sunnah will be seen more convincingly and effectively. The foundations of the aforementioned financial crisis were laid by the borrowing of consumers in a way that would strain their income. Mortgages given to people who do not have sufficient income began not to be paid due to the rise in interest rates. Both in the issuance of adjustable rate mortgages and in derivative debt securities based on these mortgages there were practices that deceived investors on one hand and extreme uncertainty in terms of price and risk on the other hand. In our opinion, a careful analysis of this important case reveals quite clearly the current importance and value of the economic teachings of Islam. [ABSTRACT FROM AUTHOR]

Using matched borrower-lender data, we document strong nonprice supplier effects in mortgage contract choice. For given relative price of adjustable and fixed rate mortgages, households borrowing from banks hit by shocks to the cost of long term funding, or to the deposits base or to access to securitization are more likely to choose adjustable rate mortgages. Supply factors have larger effects on less-sophisticated households and at times of price inaction. A model in which banks affect borrowers' choices through prices and distorted advice predicts these findings. We contrast the distorted advice interpretation of the evidence against the potential alternative nonprice channels. Received April 7, 2017; editorial decision October 21, 2018 by Editor Stijn Van Nieuwerburgh. Authors have furnished an Internet Appendix, which is available on the Oxford University Press Web site next to the link to the final published paper online. [ABSTRACT FROM AUTHOR]

This paper studies the role of monetary policy for the dynamics of US mortgage debt, which accounts for the largest part of household debt. A time-varying parameter vector autoregressive (VAR) model allows us to study the variation in the sensitivity of mortgage debt to monetary policy. We find that an identically sized policy shock became less effective over time. We use a dynamic stochastic general equilibrium model to show that a fall in the share of adjustable rate mortgages (ARMs) can replicate this finding. Calibrating the model to the drop in the ARM share since the 1980s yields a decline in the sensitivity of housing debt to monetary policy which is quantitatively similar to the VAR results. A sacrifice ratio for mortgage debt reveals that a policy tightening directed toward reducing household debt became more expensive in terms of a loss in employment. Counterfactuals show that this result cannot be attributed to changes in monetary policy itself. [ABSTRACT FROM AUTHOR]

This paper uses a quasi‐natural experiment to identify the impact of interest rates on mortgage default. Using loan‐level panel data for Ireland, we deal with selection bias by exploiting the variation between two adjustable‐rate mortgages offered in the 2000s. We link interest rates to default directly through borrower installments. We find a strong, statistically significant, impact of interest rates on default; a 1% increase in installment is associated with a 5.8% increase in the likelihood of default. We also find evidence that negative equity amplifies the increase in default risk caused by higher interest rates. [ABSTRACT FROM AUTHOR]

In this paper, we study optimal mortgage decisions in a cross-currency setting. In particular, we address the question on how a household should optimally split its mortgage portfolio in a fixed rate mortgage in the domestic currency and an adjustable rate mortgage denominated in a foreign currency subject to some risk constraints. We propose an affine factor model which allows to jointly investigate the impact of variations in interest rates as well as of exchange rate fluctuations on mortgage decisions. As a case study, we apply our model to real data on Swiss and German mortgage markets and we estimate parameters using a quasi-Kalman filter approach. We then study the impact of different income splits, risk attitudes, and mortgage specifications on the household's portfolio choice in a mean–variance optimization approach. [ABSTRACT FROM AUTHOR]

This paper explores the causal effect of foreclosure on individual well‐being. Using plausibly exogenous variation in the timing of interest rate changes on different types of adjustable rate mortgages, we find that a 10% rise in foreclosures is associated with a 0.58% and 0.28% decline in current and expected future life satisfaction. These effects are primarily driven by the effects on local economic optimism. The results are consistent with models of spatial externalities where large‐scale shocks generate adverse effects on communities, not just individuals. [ABSTRACT FROM AUTHOR]

We study mortgage design features aimed at stabilizing the macroeconomy. We model overlapping generations of borrowers and an infinitely lived risk‐averse representative lender. Mortgages are priced using an equilibrium pricing kernel derived from the lender's endogenous consumption. We consider an adjustable‐rate mortgage with an option that during recessions allows borrowers to pay only interest on their loan and extend its maturity. The option stabilizes consumption growth over the business cycle, shifts defaults to expansions, and enhances welfare. The cyclical properties of the contract are attractive to a risk‐averse lender so that the mortgage can be provided at a relatively low cost. [ABSTRACT FROM AUTHOR]

The Federal Home Loan Bank of San Francisco announced its intention to discontinue the three Eleventh District Weighted Average Cost of Funds Indexes (COFI). As these indexes are used to benchmark many ARM mortgages, their discontinuation raises two important issues. First, are mortgage markets losing significant information and efficiency in their absence, and second, does this action result in significant consumer and financial institution costs? Though COFI was somewhat unique when first constructed in 1981, we find that there are now good close substitutes available. In addition, a time series analysis of COFI demonstrates that its quality and time consistency has deteriorated since its inception making it a less useful, and perhaps misleading measure of savings institutions' cost of funds. The analysis also suggests research into the fidelity of other long lived and oft-used indexes is likely warranted. [ABSTRACT FROM AUTHOR]

Shared appreciation mortgages (SAMs) feature mortgage payments that adjust with house prices. They are designed to stave off borrower default by providing payment relief when house prices fall. Some argue that SAMs may help prevent the next foreclosure crisis. However, home owners' gains from payment relief are mortgage lenders' losses. A general equilibrium model in which financial intermediaries channel savings from saver to borrower households shows that indexation of mortgage payments to aggregate house prices increases financial fragility, reduces risk‐sharing, and leads to expensive financial sector bailouts. In contrast, indexation to local house prices reduces financial fragility and improves risk‐sharing. [ABSTRACT FROM AUTHOR]

How can mortgages be redesigned to reduce macrovolatility and default? We address this question using a quantitative equilibrium life‐cycle model. Designs with countercyclical payments outperform fixed payments. Among those, designs that front‐load payment reductions in recessions outperform those that spread relief over the full term. Front‐loading alleviates liquidity constraints when they bind most, reducing default and stimulating housing demand. To illustrate, a fixed‐rate mortgage (FRM) with an option to convert to adjustable‐rate mortgage, which front‐loads payment reductions relative to an FRM with an option to refinance underwater, reduces price and consumption declines six times as much and default three times as much. [ABSTRACT FROM AUTHOR]

Homeowners are generally less likely to use short-term alternative loans such as payday loans, car title loans, and tax refund anticipation loans but this association has not been fully explored across all income groups and in the context of other homeownership characteristics. Using the 2009 U.S. National Financial Capability Study, this study shows that homeownership generally reduces the propensity for high-cost alternative borrowing across all income quintiles. However, home purchases made within the 5 years prior to 2009 increased the probability of alternative borrowing in the bottom two quintiles. Also, apart from the bottom quintile, homeowners with adjustable-rate mortgages are more likely to resort to alternate loans compared to those without such mortgages. Surprisingly, those with home equity loans in the lower quintile are more likely to have used AFS loans as well. [ABSTRACT FROM AUTHOR]

In this paper, I identify shocks to interest rates resulting from two administrative details in adjustable‐rate mortgage contract terms: the choice of financial index and the choice of lookback period. I find that a 1 percentage point increase in interest rate at the time of adjustable‐rate mortgage (ARM) reset results in a 2.5 percentage increase in the probability of foreclosure in the following year, and that each foreclosure filing leads to an additional 0.3 to 0.6 completed foreclosures within a 0.10‐mile radius. In explaining this result, I emphasize price effects, bank‐supply responses, and borrower responses arising from peer effects. [ABSTRACT FROM AUTHOR]

This article studies optimal mortgage design in a continuous-time setting with volatile and privately observable income, costly foreclosure, and a stochastic market interest rate. We show that the features of the optimal mortgage are consistent with an option adjustable-rate mortgage (option ARM). Under the optimal contract, the borrower is given discretion of how much to repay until his balance reaches a certain limit. The default rates and interest rate payment on the mortgage correlate positively with the market interest rate. Gains from using the optimal contract relative to simpler mortgages are the biggest for those who face more income variability, buy pricey houses given their income level, or make little or no down payment. Our model thus may help to explain a high concentration of option ARMs among riskier borrowers. [ABSTRACT FROM PUBLISHER]

Abstract: The paper studies the effects of mortgage choices between fixed‐rate mortgages (FRMs) and adjustable‐rate mortgages (ARMs) on labor market efficiency. FRMs provide insurance for risk‐averse borrowers in the sense that they pay the same rate over time and are not subject to uncertain spot market rates. FRMs, however, discourage borrowers from moving to other regions despite better employment opportunities, as they terminate the FRM contracts in order to move and their new loan interests may be higher. As FRM‐borrowers do not move to other regions due to the interest lock‐ins, entrepreneurs in other regions lose the potential surpluses from productive matches that would have occurred between borrowers‐workers and entrepreneurs. Borrowers ignore this negative externality they impose on the entrepreneurs when choosing their mortgages, and too many borrowers choose FRMs relative to the efficient level. If FRMs are eliminated and ARM‐insurance (that protects ARM‐borrowers against uncertain adjustable interest rates) is created, it will improve efficiency. The paper also assesses quantitatively the welfare effects of eliminating FRMs and providing ARM‐insurance. [ABSTRACT FROM AUTHOR]

The very inflationary economic conditions that have made home ownership attractive in recent years have caused mortgage lenders to reexamine their policies and offer alternatives to conventional fixed-rate mortgages. The author examines these efforts to restructure the mortgage market, including the variable-rate mortgage. [ABSTRACT FROM AUTHOR]

The article presents a mathematical decision model for borrowers regarding mortgage choice between adjustable and fixed rate regimes and the exposure to interest rate risk. A multinomial logit model is designed wherein mortgages are viewed as differentiated products. Questions are raised addressing the level of impact that price variables have on choice for alternative mortgage contracts and whether borrower characteristics influence choice in differentiated products. Results are given and analyzed, suggesting a diversity of borrower responses in several different scenarios.

The article discusses the benefits and drawbacks of both fixed and adjustable rate mortgages. Scholars have frequently thought that consumer lay in one of two groups, the first being that the consumers' characteristics had nothing to do with the mortgage terms that they were given and the other being one where information asymmetry is not an issue and that characteristics are taken into account. The article concludes that the probit discrete choice model uncovered that consumers' mortgage choices were most influenced by price.

Our study uses a multinomial logit model to analyze the concurrent termination experience of adjustable-rate and fixed-rate mortgages. A new set of ARM-specific interactive determinants expands the conventional FRM specification to isolate the unique termination behavior of ARMs. We find that expected rate adjustments and large lifetime caps are positively related to ARM termination probabilities while long adjustment frequencies are inversely related. Caps, both periodic and lifetime, have a secondary, inverse effect on termination probabilities when interest-rate movements exceed cap limits. The model also shows that interest-rate expectations affect FRM terminations more strongly than ARM terminations. [ABSTRACT FROM AUTHOR]

With the increasing use of adjustable-rate mortgages for asset/liability management, there exists the need to properly evaluate their price sensitivity to interest rate changes. This paper provides a foundation by deriving the duration of an adjustable-rate mortgage. The properties of this duration are unique and have some important differences from those of fixed-rate securities. One important characteristic of an adjustable-rate mortgage concerns the index used to adjust the mortgage rate. It was found that the index tended to be more important than the adjustment frequency in determining the duration of an adjustable-rate mortgage. [ABSTRACT FROM AUTHOR]

A number of proposals have recently been made to permit the introduction of one or a number of alternative instruments of residential mortgage finance (AMI's) as supplements or replacements for the familiar fixed nominal-interest rate, constant payment mortgage (the FRM). These instruments, it is contended, will prove superior to the FRM in responding to lenders' or borrowers' cash flow requirements, increasing mortgage capital flows, and increasing the level of housing consumption and opportunities for homeownership. One of the major issues which has emerged in connection with such proposals and which is hindering such introduction is the effect AMI's would have on default risk by certain borrower groups, particularly young, elderly, poor, non-upwardly mobile, or black households. An increase in default risk could mean the application of more rigorous underwriting standards by lenders, which would result in increased cost or even denial of mortgage credit to these groups. This study empirically addresses this issue through (1) estimation of a model relating variables associated with the borrower, property, and mortgage instrument to the probability of default over time and (2) simulation of default risk under various alternative instruments, carded out by observing the behavior of the estimated model under alternative mortgage conditions. The data used in estimation are generated through respecification of a default model developed by yon Furstenberg, with explanatory variables recast into terms which are not instrument specific. Simulation under a variety of scenarios of borrower and economic conditions permits a broad assessment of the desirability of each AMI. The study is divided into four sections. First, the theoretical basis for model specification is set forth. Second, the model is estimated, and caveats relating to the strength and interpretation of estimation results are made. Third, the model is used to simulate the impact of the introduction o... [ABSTRACT FROM AUTHOR]

Many legislators and consumer protection groups have been concerned with the fate of the mortgagor under a variable rate mortgage when interest rates rise. The major concern is whether the mortgage payments become excessive under a variable rate program in which the payment varies. This study addresses this question by examining the experience of the Federal Land Banks with their variable rate rural home mortgage program. [ABSTRACT FROM AUTHOR]

In the paper I shall discuss Stansell and Millar examine the variable rate, variable payment mortgages issued by the Farm Credit Banks. They are concerned with the question of whether adjusting the mortgage payment puts an undue burden on the borrower. To answer this question, an examination is made of how the mortgage payment to mortgagor net income ratio changes over a period of time. The authors conclude that "the variable rate, variable payment mortgage did not constitute an undue burden on the mortgagor." Studying this paper I have found several serious problems, some of a conceptual nature and others of a technical nature concerning the statistical procedures employed. Because of these problems I have serious doubts whether a case has been made that these mortgages do not constitute an undue burden on the mortgagor. My discussion summarizes some of the reasons for these doubts. [ABSTRACT FROM AUTHOR]

The alternative instrument I have in mind is simply long-term deposits. Thrifts' portfolios can be stabilized just as satisfactorily by lengthening the effective term to maturity of their liabilities, with more long-term deposits for example, as by shortening the effective term to maturity of their assets. Previous discussions of VRM's and interest-rate risk protection have generally overlooked this possibility and have assumed that thrifts will continue to rely for their funds primarily on passbook deposits and other short-maturity liabilities. This paper concentrates instead on the possible implications of regulatory changes that would permit thrifts to compete effectively for long-term deposits. In the language of the commercial banking world, my analysis concerns the implications of liability management by thrift institutions. [ABSTRACT FROM AUTHOR]

The article reports on the nature of risks to thrift institutions and mortgage lenders in California. The adjustable rate mortgages are analyzed through the use of an option theory. Adjustable rate mortgages are long-term mortgage loan contracts which contain an effective rate which fluctuates periodically in relation to market rates of interest. Fluctuations are caused by variations in the monthly mortgage payment, changes in the number of fixed monthly payments, or both. Adjustable rate mortgages can benefit savings and loan associations but not the household sector.

The article comments on the use of variable mortgages (VRM) in the U.S., and presents the arguments of the advocates of VRMs who argue that they offer a reduction of risks to lenders, and their critics who argue that the risks are simply shifted to the consumer. The author weighs the success of variable rate mortgages in the U.S. and abroad and considers whether there will be common use of VRMs in a properly functioning capital market. The author theorizes that his use of variable rate mortgages in other parts of the world may have been exaggerated since the variable rate clause is included in the standard home mortgage contract in Great Britain and in Sweden.

Using non-agency securitization data consisting of mortgages originated between 1991 and 2007, we find that fraction of defaulted mortgages increases from 10.8% in the pre-crisis period (July 2007) to 19.6% in the post crisis period (July 2009). This paper then applies a split population hazard model, or widely known as a mixture cure model in biometrics literature, to jointly predict incidence (probability) and latency (hazard rate) of mortgage default, and more specifically to analyze the right-tail characteristics of the survival distributions of the sample mortgages. Our results show that negative equity is a highly significant factors driving both default incidence and latency for both adjustable rate mortgages (ARMs) and fixed rate mortgages (FRMs). We also show that borrowers' credit scores have weaker predictive effects on the latency (survival hazard) risks, but both low FICO and subprime borrowers have higher probability to default in an adverse market condition, ceteris paribus. Borrowers with low credit scores have high default probabilities but with a longer time to default (hazard rate). They are more likely to hang onto their mortgages even if they are 'underwater' (negative equity). In terms of the 'cured' rate, we show that subprime borrowers with underwater (negative equity) FRM mortgages, and prime ARM borrowers have relatively higher 'cured' rates in the mortgage sample. More policy experiments can be conducted using the mixture cure model to test the effectiveness of selected financial assistance programs in the future. [ABSTRACT FROM AUTHOR]

Exploiting variation in the timing of resets of adjustable-rate mortgages (ARMs), we find that a sizable decline in mortgage payments (up to 50 percent) induces a significant increase in car purchases (up to 35 percent). This effect is attenuated by voluntary deleveraging. Borrowers with lower incomes and housing wealth have significantly higher marginal propensity to consume. Areas with a larger share of ARMs were more responsive to lower interest rates and saw a relative decline in defaults and an increase in house prices, car purchases, and employment. Household balance sheets and mortgage contract rigidity are important for monetary policy pass-through. (JEL D12, D14, E43, E52, G21, R31) [ABSTRACT FROM AUTHOR]