Adjustable Mortgages Research Articles

Inframarginal Borrowers and the Mortgage Payment Channel of Monetary Policy

Despite the widespread use of fixed-rate mortgages in the United States, I show that monetary policy is effectively passed through to aggregate outstanding mortgage debt service. Using credit bureau, lender, and servicer data on mortgage payments and originations and exogenous monetary policy shocks, I estimate a mortgage rate semi-elasticity of payments over 10. Inframarginal borrowers---households whose choice to buy a home or refinance does not depend on the particular monetary policy decision under consideration---are the most important conduit, explaining over half of the pass-through. Consistently large flows of inframarginal borrowing relative to the stock of outstanding debt account for the strength of this channel. Households with adjustable-rate mortgages and marginal refinancers, the focus of much of the literature on monetary policy's effect on mortgage borrowers, each explain about 20 percent of the pass-through. I show the mortgage payment channel induces a lag in the operation of policy, as the cumulative effects on debt service build over time in response to persistent shocks to longer-term rates. Estimated magnitudes suggest that mortgage payments are a primary channel by which monetary policy affects consumption.

Predictive Modeling of Default Scenarios in the CMBS Market: A Macroeconomic Approach

This study analyzes potential default risks in Mortgage-Backed Securities (MBS) using time series data from 2010 to 2023. Employing Vector Autoregression (VAR) models to forecast economic indicators and calculate DTI and LTV ratios, which are crucial for predicting defaults in the MBS market. Our analysis, based on two economic models, examines the influence of macroeconomic factors and credit default risks on residential and commercial properties, such as Fixed-Rate and Adjustable-Rate Mortgages. The findings suggest that despite the significant impact of the pandemic, the likelihood of default in the American MBS market over the next 15 years remains relatively low. The study emphasizes the significance of comprehending the relationship between macroeconomic conditions and MBS default risks, providing a comprehensive methodology for future research.

Mortgage choice and inflation experiences in the Eurozone

In the Eurozone, households’ mortgage preferences vary widely, both within and across countries. This persistent heterogeneity in the choice between an adjustable rate mortgage (ARM) and a fixed rate mortgage (FRM) two decades after introducing a common currency is a puzzle. We argue that these patterns relate to the long-lasting effect of personal experiences of high-inflation periods. Analysing rich household data across 9 countries, we show that higher lifetime experienced inflation predicts significantly lower probability of holding an FRM: a 1 log-point increase in experienced inflation predicts a 71% decrease in the odds of holding an FRM. We relate our findings to existing theories on household mortgage risk management and argue that Eurozone prepayment penalties heighten the ‘inflation risk’ associated with FRMs. We also find that past personal inflation experiences are associated to risk aversion: households with histories of high and volatile inflation report lower willingness to take financial risk.

Fixed vs. adjustable-rate mortgages and attention

The aim of this paper is to analyze the attention of households to fixed-rate and adjustable-rate mortgage loans depending on the evolution of interest rates. We hypothesize that a high level of general interest rates would lead to a higher attention to adjustable-rate mortgages. Using Google Trends tool to capture this attention, we demonstrate using VAR models that upsurges in interest rates precede a larger attention on Google searches related to adjustable-rate mortgages, but not for fixed-rate mortgages.

Fixed rate versus adjustable rate mortgages: Evidence from euro area banks

Why do residential mortgages carry a fixed or an adjustable interest rate? To answer this question we study unique data from 103 banks belonging to 73 different banking groups across twelve countries in the euro area. To explain the large cross-country and time variations observed, we distinguish between household conditions that determine the local demand for credit and the characteristics of banks that supply credit. As bank funding mostly occurs at the group level, we disentangle these two sets of factors by comparing the outcome observed for the same banking group across the different countries. Local household conditions dominate. In particular we find that the share of new loans with a fixed rate is larger when: (1) the historical volatility of inflation is lower, (2) the correlation between unemployment and the short-term interest rate is higher, (3) households’ financial literacy is lower, and (4) the use of local mortgages to back covered bonds and of mortgage-backed securities is more widespread.

Influence of asset quality, capital adequacy, loan structure and macro-economic variables on financing of mortgage products by commercial banks in Kenya

The study sought to determine the influence of asset quality, capital adequacy, loan structure and macro-economic variables on Financing of mortgage products by commercial banks in Kenya. The study used a descriptive research design targeting 196 bank managers including, relationship managers, head of mortgage/retail sales, head of documentation, credit manager, head ofdocumentation, head of finance, and finally head of legal. Data collected was coded and cleaned before undertaking necessary analysis that comprised descriptive and inferential statistics. Descriptive statistics was done by means of frequency tables, mean, standard deviations, charts and figures, while inferential statistics included ANOVA, regression and correlation analysis. The results show that asset quality, capital adequacy, loan structure, macroeconomic variables jointly influence 81.5% of the mortgage financing. Further they were positively and statistically significant in predicting the variation in mortgage financing (F (4, 147) = 161.65, p<.000). The study recommends that banks should consider their credit portfolio in making decisions on financing mortgage products. More so, banks should favour adjustable-rate mortgages as opposed to fixed-rate mortgages and that banks should not charge high loan fee for mortgage products. Finally, it is recommended that banks should support the government housing finance systems by offering various mortgage loan flexibilities to developers of affordable housing products and that it should formulate policy and procedure on mortgages that can support commercial banks in financing mortgage products.

Application Of Economic Mathematics In Periodical Installation System

This paper provides financial planning aspect by modeling the impact of mortgage rate changes on the size of payments for ARMS. This study uses a simulation approach to model the choice between a fixed rate mortgage (FRM} and an adjustable rate mortgage (ARM). Our simulations help assess therisks and benefits of choosing an ARM rather than a FRM. We represent the risk of the ARM with distributions of present value cost for a variety of mortgage lifeperiods.

Adjustable-rate mortgages in the era of global reflation: How to model additional default risk?

We investigate the problem of interest rate risk transforming into default risk of adjustable-rate mortgage loans in the EU. Bank regulation is strikingly not neutral in this aspect, it explicitly favors short-duration adjustable-rate loans over long-duration fixed-rate loans in the framework of the gap management. This asymmetry in the regulation creates perverse incentives both for banks and households, which can lead to aggressive risk-taking, over-indebtedness of unhedged households, high procyclicality of mortgage markets, and increased systemic risks. We present a stress test model to quantify potential losses stemming from this specific risk from the perspective of lender institutions. We estimate the average extra capital that is needed to cover the additional risk of adjustable-rate mortgage loans in the EU to be 0.53% of the value of the total mortgage portfolio and 1.97% of the value of the adjustable-rate mortgage portfolio. We propose introducing a stress test model as a new mandatory element into banks’ risk management framework.

OPTIMAL CROSS-CURRENCY MORTGAGE DECISIONS

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.

The heterogeneity of interest-induced MPC: Evidence from mortgage borrowers

Using comprehensive credit bureau data of South Korea, this paper explores the heterogeneous interest-induced Marginal Propensity to Consume (MPC) for mortgage borrowers by their liquidity, credit accessibility, and debt burden. The main findings are as follows. First, the negative relationship between interest payments and consumption comes from borrowers with Adjustable-Rate Mortgages (ARMs). Second, among mortgagors with ARMs, those with low liquidity and credit accessibility show a high interest-induced MPC. Third, the mortgagors with high debt burdens show relatively low interest-induced MPC due to active deleveraging behavior. Fourth, while unconstrained borrowers consistently show low and insignificant MPC, constrained borrowers (those with low liquidity, credit accessibility) maintain long-lasting high MPCs for eight quarters after interest reduction. These results imply that the magnitude and persistence of consumption effect of interest payment reduction depend largely on financial characteristics of mortgage borrowers.

Fixed Rate Versus Adjustable Rate Mortgages: Evidence from Euro Area Banks

Why do some residential mortgages carry a fixed interest rate and others an adjustable rate? To answer this question we studied unique data from 103 banks belonging to 73 different banking groups across twelve countries in the euro area. To explain the large cross-country and time variations observed, we distinguished between the conditions that determine the local demand for credit and the characteristics of banks that supply credit. As bank funding mostly occurs at the group level, we disentangled these two sets of factors by comparing the outcomes observed for the same banking group across the different countries. Local demand conditions dominate. In particular we find that the share of new loans with a fixed rate is larger when: (1) the historical volatility of inflation is lower, (2) the correlation between unemployment and the short-term interest rate is higher, (3) households' financial literacy is lower, and (4) the use of local mortgages to back covered bonds and of mortgage-backed securities is more widespread.

Fixed Rate Versus Adjustable Rate Mortgages Evidence from Euro Area Banks

Fixed Rate Versus Adjustable Rate Mortgages Evidence from Euro Area Banks

Mortgage debt and time-varying monetary policy transmission

AbstractThis 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.

Foreclosure spillovers and individual well‐being: Evidence from the Great Recession

AbstractThis 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.

One Money, Many Markets

Abstract We study heterogeneity in the transmission of monetary shocks across euro-area (EA) countries using a dynamic factor model and high-frequency identification. Deploying a novel methodology to asses the degree of heterogeneity, we find it to be low in financial variables and output but significant in consumption, consumer prices, and variables related to local housing and labour markets. We show that a large proportion of the variation in the responses to monetary shocks can be accounted for by differences in some characteristics of these markets across EA member countries: the share of adjustable mortgage contracts, homeownership rates, shares of hand-to-mouth and wealthy hand-to-mouth consumers, as well as wage rigidity.

Fixed rate mortgages: The cost of interest rate risk aversion

Mortgages play a significant role in the US economy. Americans predominantly use fixed-rate mortgages (FRMs) to avoid interest rate risk, but the related risk aversion cost has not been analyzed yet. This paper fills the gap by investigating the cost of choosing FRMs over adjustable-rate mortgages (ARMs). We find that ex post, FRM borrowers made 12% – 23% higher payments to avoid 0.66% – 1.62% potential ARM payment shocks. Consequently, we introduce and analyze a payment-saving strategy to absorb ARM payment shocks. Emerging data show that ARM borrowers are less financially constrained and less of a concern to policymakers.

Structuring Mortgages for Macroeconomic Stability

We study mortgage design features aimed at stabilizing the macroeconomy. We model overlapping generations of mortgage borrowers and an infinitely lived risk-averse representative mortgage lender. Mortgages are priced using an equilibrium pricing kernel derived from the lender's endogenous consumption. We consider an adjustable-rate mortgage (ARM) with an option that during recessions allows borrowers to pay only interest on their loan and extend its maturity. We find that this maturity extension option stabilizes consumption growth over the business cycle, shifts defaults to expansions, and is welfare enhancing. The cyclical properties of the maturity extension ARM are attractive to a risk-averse lender so the mortgage can be provided at a relatively low cost. Institutional subscribers to the NBER working paper series, and residents of developing countries may download this paper without additional charge at www.nber.org.

Selection, Leverage, and Default in the Mortgage Market

Abstract 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.

The interest rate exposure of euro area households

We estimate the “unhedged interest rate exposure” (URE) of euro area households. The URE, defined by Auclert (2019), is a welfare metric that captures the extent to which households are exposed to changes in real interest rates, and allows an assessment of the redistributive effects associated with monetary policy decisions.We examine the distribution of UREs along the net wealth, income, age and housing status distributions for the euro area as a whole and for individual countries, and document substantial heterogeneity across these dimensions. Households at the lower end of the net wealth distribution, younger households and mortgagors have negative interest rate exposure and would lose out from an increase in interest rates, all else being equal. Wealthy households, higher income and older households, as well as outright homeowners would stand to benefit.The heterogeneity of exposures across euro area countries is largely attributable to the differences in the prevalence of adjustable rate mortgages (ARMs). Averaging across households in euro area countries, households in Austria, Germany, Italy and Malta stand to benefit from an increase in the interest rate, whereas households in Cyprus, Ireland, the Netherlands, Portugal and Spain would lose out.

The Impact of Crisis-Period Interest Rate Declines on Distressed Borrowers

We measure the causal impact of reductions in benchmark interest rates on the renegotiation and performance of distressed loans, using 2000s subprime adjustable-rate mortgages as a laboratory. Subprime borrowers treated with larger benchmark Libor rate declines benefited from increased debt-renegotiation and lower debt-service payments. The estimated effects are similar across both current borrowers and those in default. Renegotiation of mortgage debt also reduced foreclosures over the longer term. However, following debt-renegotiation, surviving treated borrowers re-entered and lingered in serious delinquency. Findings suggest that while policy may effect reductions in benchmark rates and spur debt-renegotiation, such interventions may not lead to longer-run curative outcomes.