What Broker Charges Reveal About Mortgage Credit Risk

Abstract

Prior to the subprime crisis, mortgage brokers charged higher percentage fees for loans that turned out to be riskier ex post, even when conditioning on other risk characteristics. High conditional fees reveal borrower attributes that are associated with high borrower risk, such as suboptimal shopping behavior, high valuation for the loan or high borrower-specific broker costs. Borrowers who pay high conditional fees are inherently more risky, not just because they pay high fees. We find a stronger association between conditional fees and delinquency risk when lenders have fewer incentives to screen borrowers, for purchase rather than refinance loans, and for loans originated by brokers who have less frequent interactions with the lender. Our findings shed light on the proposed QRM exemption criteria for risk retention requirements for residential mortgage securitizations.