Underwriting Standards, Loan Products and Performance: What Have We Learned?

Abstract

Responses to the mortgage market crisis of the past decade led to myriad changes in the structure of the industry, expanded market regulations, and resulted in a shift in the composition of products being offered to borrowers. To name but a few changes, the subprime market virtually disappeared, the Dodd-Frank bill added both Qualified Mortgage (“QM”) and Qualified Residential Mortgage (“QRM”) requirements to the regulatory environment, the 30-year fixed rate mortgage (“FRM”) almost monopolized product space, and lenders significantly tightened their underwriting standards. On the positive side, these changes reduce the likelihood of another foreclosure crisis, but they do so at the cost of significantly reducing access to credit for borrowers making small down payments or those with poor credit histories. Mortgage histories from the past decade now contribute to unique data on the performance of a wide variety of products during stressful economic environments. The aim of this paper is to assess whether these data can be leveraged in a traditional automated underwriting system to responsibly extend credit to underserved borrowers. We find that traditional automated underwriting systems do offer potential for addressing access to credit concerns for these borrowers. They are unlikely to be a panacea by themselves, but they appear to offer a valuable tool to those trying to extend credit to targeted borrowers at acceptable risks.