Mortgage Lenders' Market Response to a Landmark Regulatory Decision Based on Fair Lending Compliance

Abstract

Regulation of real estate lending has substantially increased in the past decade. Government efforts to improve compliance with Community Reinvestment Act mandates are evidence of increased emphasis on racial equal opportunity in loan origination. To investigate the impact of these efforts, this paper examines the Federal Reserve Bank rejection of Shawmut National Corporation's application to buy New Dartmouth Bank. Rejection was based on Shawmut’s poor compliance with fair-lending guidelines. Testing finds significant negative abnormal stock returns for samples of mortgage lenders on the announcement day of Shawmut’s application rejection. In addition, cross-sectional analysis reveals an inverse relationship between national banks’ cumulative abnormal returns (CARs) and a measure of fair lending.