Mortgage Terms Research Articles

Re-investigating the linkage between buildings’ energy efficiency and mortgage rates

ABSTRACT The energy use in residential buildings is one of the deciding factors in the transition to a carbon-neutral economy. Using data on Dutch residential mortgages from 2013 to 2022, we re-investigate the linkage between mortgage interest rates and the energy efficiency of buildings. The results are novel in that they are the first to empirically provide evidence in favour of a small sustainability discount of about 3 bps on mortgage interest rates for residential homes. Sensitivity checks suggest that younger-aged borrowers and those in the middle-income range benefit the most from a sustainability discount. From a policy perspective, our results are relevant as they show how banks ‘walk the talk’ and incorporate energy efficiency in mortgage terms.

The Effects of Housing Price Declines on Children's Educational Outcomes

Abstract We examine the effects that household exposure to housing price declines, captured by measures of negative equity, have on children's academic performance, using data on public school students and housing transactions from the State of Florida. Our empirical strategy exploits variation over time in the timing of family moves to account for household sorting into neighborhoods and schools and selection into initial mortgage terms. In contrast to the existing literature on the effects of foreclosure, we find that students with the highest risk of negative equity exhibit significantly higher test score growth, with the largest effects among Black students and students qualifying for free or reduced-priced lunch. We find evidence supporting two underlying mechanisms: (1) families in negative equity may reduce the impact of income losses on consumption by forgoing mortgage payments, and (2) families exposed to high levels of negative equity may move to schools that received higher average school report card grades. While negative equity and foreclosure are undesirable, negative equity may have encouraged homeowners to forgo mortgage payments to mitigate the impact of the Great Recession, and temporarily reduced the housing market barriers low-income households faced in accessing educational opportunities.

A marginal cash flow analysis of mortgagors’ choices

A great deal of academic research has focused on determinants of the spread between interest rates on conforming versus Jumbo and 15-year versus 30-year mortgages, but much less has been done to help the borrower determine what choice is best for him. We examine these issues from the borrower’s frame of reference and find that comparisons of mortgage terms can be facilitated by analyzing the marginal cash flows from one mortgage contract to another. For many borrowers the “conventional wisdom” leads to suboptimal choices; making the better choice can easily produce low-risk double-digit returns.

Serious Mortgage Arrears among Immigrant Descendant and Native Participants in a Low-Income Public Starter Mortgage Program: Evidence from Norway

Although low-income homeownership programs serving vulnerable families at the lower end of the income distribution have been the focus of housing policy in many countries over the past 50 years, little is known about the post-origination experiences of immigrant families participating in these programs. Notably absent from the extant literature are studies examining the sustainability of homeownership among immigrant homebuyers and their susceptibility to falling behind on payments and experiencing mortgage defaults, evictions, or short sales. Utilizing data from 8263 families participating in Norway’s Starter Mortgage Program (Startlån) during the first three calendar years after mortgage origination, we examine the extent to which serious mortgage arrears varies by immigrant background. Two primary questions shape our research: (1) What is the incidence of serious mortgage arrears among Western, Eastern European, and non-Western immigrant homeowners relative to ethnic Norwegians participating in a public low-income homeownership program? and (2) What pre- and post-origination characteristics of applicants and households, mortgage terms at the time of origination, and experiences of household financial vulnerability or economic shocks predict heterogeneity in serious mortgage arrears by immigrant backgrounds? We found that 6.1% of ethnic Norwegian, 6.2% of Western, 4.9% of non-Western, and 3.2% of Eastern European immigrant homeowners participating in the Starter Mortgage Program were in serious mortgage arrears at least once during the first three calendar years after mortgage origination. Results from our negative binomial regression analyses suggest that program participants who were sole owners, with larger families, and higher debt were more likely to experience serious mortgage arrears; these effects were accentuated for ethnic Norwegians. Additionally, mortgage terms at the time of origination produced differential effects by immigrant background. Compared to Western and Eastern European immigrant homeowners, ethnic Norwegians were more likely to have experienced serious mortgage arrears if they purchased a single-family home, had larger LTV and DTI ratios, or if the Startlån share of their mortgages was higher. Non-Western immigrant mortgagors were more likely to make late mortgage payments if they had larger LTV ratios, interest-only mortgage servicing, or if they were more reliant on Startlån funds to finance their mortgages; however, this risk was reduced if they had fixed-rate mortgages. Financial vulnerability in terms of higher debt or fewer assets also increased the risk of serious mortgage arrears for ethnic Norwegians and non-Western immigrant homeowners, while increases in real wealth reduced that risk for all immigrant mortgagor groups.

Do non-damaging earthquakes shake mortgage lenders' risk perception?

This study examines how banks respond to earthquakes that convey seismic risk salience but do not cause damage, i.e., noticeable non-damaging earthquakes (NNDEs). Using evidence from California, we find loans more likely to be denied or sold after increased NNDEs. Banks with fewer assets, more diversified branching markets, or stronger sales capability relied more on securitization to transfer the perceived seismic risk. We show evidence that banks likely learned about the NNDEs through personal experience and local news. The effects of NNDEs persisted up to three years. Meanwhile, the NNDEs only caused moderate and temporary collateral devaluation but did not increase the observable default risk. Thus, banks' responses most likely resulted from the increased risk salience of future damaging earthquakes during the mortgage term. Our findings call for reevaluations of the heuristics in banks' risk-perception updating and have implications for designing more efficient disaster risk-sharing mechanisms in the financial market.

Residential Mortgage Portfolio, Product Innovation and Performance of Commercial Banks in Kenya

This study sought to investigate the relationship between residential mortgage portfolios, product innovation, and performance of commercial banks in Kenya. The study was anchored on the Modern Portfolio Theory, Agency Theory, and Asymmetric Information Theory. The study adopted a correlational descriptive research design and data collected from the annual residential mortgage surveys conducted by the central bank of Kenya (CBK) on commercial banks covering a 13-year period from 2006 to 2018. Further, the financial statements of commercial banks and Kenya Bankers Association database were used as a source of secondary data. Data were analyzed via panel data approaches. The Baron and Kenny (1986) approach was used to test the hypothesis. The results revealed that residential mortgage portfolio attributes, namely: portfolio quality and mortgage interest return significantly influence bank performance. The effect of mortgage terms on the relationship between mortgage portfolio quality and performance was negative and statistically significant. Loan to value (LTV) ratio was however found not to significantly intervene in the relationship between residential mortgage portfolios and the performance of banks operating in Kenya. From the findings, the study suggested that bank managers pay attention to the institutional environment and product characteristics in designing their mortgage loan portfolios.

Recent evolution of housing finance policy and development agendas in Mexico

ABSTRACT Political and economic reforms to open and liberalize Mexico’s economy drove federal administrations to promote mortgage expansion and mass housing production at an unprecedented pace since around the turn of the millennium. This allowed a select group of housing development companies to grow considerably through the construction and sale of homes for lower-middle income households. The country’s housing finance and development model was eventually rendered unsustainable given onerous mortgage terms for households, substandard housing production in remote locations, leverage issues and speculative practices on the part of developers. Subsequent administrations modified their approach to managing, promoting, and restricting housing finance and production, highlighting the influence of political actors and regimes in addressing the tensions between economic pressures and social concerns. Shifting sociopolitical dynamics have continued to transform housing finance policy agendas. While the reach and implications of recent changes have not fully materialized, this paper highlights the fluctuating and unstable nature of housing finance and its contingency on the different political and ideological inclinations of national (and subnational) governments – and the push of their constituents.

Should commercial mortgage lenders care about energy efficiency? Lessons from a pilot study

Commercial mortgage underwriting practices currently do not fully account for energy risks to net operating income (NOI), especially changes in energy costs over the course of a mortgage term. This paper first introduces two metrics that can be used to characterize the increase in default risk due to increases in energy costs during a mortgage term: decrease in debt service coverage ratio (ΔDSCR); and increase in probability of default (ΔDP). Both these metrics were designed to be simple to calculate, utilizing data that are already being collected in loan applications. Next, we present results from a pilot study on the application of these metrics to five loans from three lenders. The results show that energy risks can vary between different properties and across different years within a given property, due to variations in energy usage. All three lenders concurred that these results suggest energy risks can in fact be material, and affirmed the metrics are a viable approach to incorporate energy risk analysis into mortgage underwriting. The policy implications include energy cost disclosure in loan applications; and incentives such as lower interest rates for energy efficient buildings and additional loan proceeds to improve efficiency and lower energy costs.

Consumer financial literacy and the efficiency of mortgage‐related decisions: New evidence from the Panel Study of Income dynamics

AbstractThis study evaluated the link between financial literacy and household mortgage decisions. To this end, the longitudinal data set for the U.S. population from the Panel Study of Income Dynamics (PSID) was used. Evidence for links between financial literacy levels and (1) mortgage uptake, (2) mortgage interest rates and (3) mortgage refinancing decisions were examined using the two waves (2015 and 2017) of PSID data, combined with the 2016 PSID supplementary questionnaire examining the measured financial literacy of household members. Our results revealed a positive link between financial literacy and mortgage possession and, additionally, between financial literacy and the subsequent decision to take out a mortgage. Moreover, higher financial literacy scores were associated with lower mortgage interests and a greater likelihood of mortgage refinancing. On average, a household that refinanced its mortgage was able to reduce its interest rate by almost 0.7 percentage points, providing evidence of the positive role of financial literacy in securing better mortgage terms.

Anticipating a Reverse Mortgage Adoption in Croatia

Abstract Reverse mortgage is an alternative source of financing of elderly population that usually has some homeownership, but insufficient income and savings to support desired or indispensable level of consumption. It is a financial innovation mostly provided by banks and finance companies to seniors, which enables a home equity conversion to liquidity without selling or leaving a property. In circumstances of ageing society, modest pension income, increasing long-care expenditures, limited access to loan market and high risk of poverty, a reverse mortgage product has a solid ground for implementation and adoption. Croatia is an ageing country with negative demographic trends, which accelerated in the last few years. Retired population which is “home rich and cash poor” is particularly vulnerable and at strike to sustain a decent life. Therefore, we raised a question concerning the justification of the reverse mortgage introduction in Croatia. After giving an insight into some contextual factors, an estimation of the potential demand for reverse mortgage service in Croatia was made by carrying out an exploratory – pilot study with around 120 questionnaire respondents. We found out that there is a poor knowledge about the reverse mortgage among Croatian financial consumers (i.e. only 24% of respondents are familiar with the reverse mortgage term), as well as the lack of demand for this home equity extraction instrument. Namely, almost 67% of respondents would not accept a reverse mortgage instrument regardless of the circumstances, primarily due to socio-cultural reasons.

Housing Policies: The Experiences and Constraints of Housing Industry in Ghana

Ghana housing policies in the pre- and post- independence have not been consistent and sustainable. Whiles the colonial government adopted self-help projects and piloted research findings, policies after independence focused on social housing, affordable housing and Public Private Partnership (PPP) projects. The impact of these policies did not improve the performance of the main stakeholders in the housing industry, thereby resulting to inadequate houses in most communities in Ghana. The research sought to identify the main challenges encountered by stakeholders in relation to government housing policies. The study adopted the exploratory and thematic literature review to ascertain the experiences and constraints faced by the Housing Industry (HI) in Ghana in relation to Ghana Housing Policies (GHP). The principle of demand and supply which determine the price mechanism in the housing market constitutes the theoretical orientation of the study. As such, challenges created by the housing policies in Ghana were related to the factors of demand and supply, principle of price mechanism and experiences of the global world and well as increase in urban shelter deviant rate. A comprehensive analysis was undertaken to reveal key findings on the challenges of the individual stakeholders namely households, financial institutions, estate developers and government land sector agencies. It was realized that prices of houses in Ghana were high in relation to households’ incomes. And that, the loan requirements of mortgage institutions of payment of 30% deposit, 50% monthly mortgage and 10 years mortgage term were unbearable by most households. It was recommended that estate developers should undertake demand assessment of households and the government should implement sustainable policies, hence reduce urban shelter deviant rate.

Spillovers of US Unconventional Monetary Policy to Emerging and Advanced Countries

This study investigates the international spillover effects of US unconventional monetary policy — frequently called large-scale asset purchases or quantitative easing (QE) — on advanced and emerging market economies, using VAR models with high-frequency daily data. Blinder (2010) argues that the QE measures primarily aim to reduce US interest rate spreads such as term premiums and risk premiums. Considering this argument, we use two interest rate spreads as indicators of the QE policy: the mortgage spread and term spread. Empirical findings, based on data from 20 emerging and 20 advanced countries, reveal that US unconventional monetary policies significantly affect financial conditions in both emerging and advanced countries by altering the risk-taking behavior of investors, which suggests that the risk-taking channel plays an important role in transmitting the effects of these policies to the rest of the world. The extent of these effects depends on the type of QE measures. QE measures such as purchases of private-sector securities that lower the US mortgage spread exert stronger and more significant spillover effects on international financial markets than do measures that reduce the US term spread. Furthermore, the estimated financial spillovers vary substantially across countries, as well as between and within the two country groups, emerging markets and advanced countries.

Self-Assessed Financial Literacy in Housing Markets

This paper introduces a novel dimension of household heterogeneity that plays an important role in housing markets. Households who self-assess themselves to be more financially literate are 1) more likely to own a house and 2) take on higher leverage on their home. We solve a heterogeneous agent portfolio choice model to infer the role of mortgage terms and of expectations on future house prices for the empirical patterns. We find that households with higher levels of self-assessed financial literacy are in fact better at the parts of the transaction that are relevant to them, namely access to more accommodating mortgage terms when they are young and better risk-return trade-offs when they are old. Moreover, by ignoring heterogeneity in financial literacy, standard models introduce quantitatively substantial biases in evaluating housing market policies. Housing demand elasticity with respect to wealth is downsized by approximately 40% when taking financial literacy into account.

Effects of the Advice Requirement and Intermediation in the UK Mortgage Market

We exploit a change in conduct regulation – the Mortgage Market Review (MMR) in 2014 – to estimate the effects of mandatory advice on the choices of UK mortgage borrowers. Focussing on the most affected segment of borrowers, home purchasers, we find that the proportion of advised transactions increased from three quarters to nearly the entire market post MMR. To estimate the effect on various aspects of consumer choices, we first construct a unique dataset that combines the entire population of residential mortgage originations from mid-2012 to mid-2016 with credit reference agency data and detailed product data on mortgage contracts (including all fees – an important component of costs given frequent re-mortgaging in the UK market). Our observation window straddles the MMR implementation date and our main specifications include an implementation window to reflect the transition in the market. We use difference-in-difference matching on the repeated cross-section to estimate the counterfactual outcome for mortgage borrowers that did not use mortgage advice before the MMR, but were effectively forced to do so afterwards. We find that advice made these borrowers more likely to fix their rates for short periods, choose longer mortgage terms and use an intermediary. We find no effects of mandatory advice on various metrics of borrowing cost. Since we observe a notable increase in intermediation across the market following the MMR, we also use matching on the cross-section of post-MMR originations to estimate the average treatment effect of intermediation. We find that intermediated borrowers are more likely to fix their rates for short periods, choose longer mortgage terms and have a lower cost of borrowing than consumers who go direct to lender.

The Case for Longer Mortgages: Addressing the Mismatch between Term and Amortization

The practice of offering maximum residential mortgage maturity terms of five years, even though amortization periods generally range from 25 to 40 years, is predominant in Canada. This mismatch between mortgage term and amortization creates a need to re-finance or renew the outstanding balloon payments at each maturity of five years or less. It also creates a twofold risk: first, that the lender would choose not to renew the loan if the fair market value of the mortgaged property is less than the principal amount and accrued interest of the loan (or that the lender is unable to renew the loan if it is insolvent), and, second, that the borrower might not find a new lender. At that point, mortgage enforcement might be necessary, and investors would suffer losses. This mismatch, therefore, impedes the development of a market for Residential Mortgage-backed Securities for uninsured mortgages – often referred to as “private label RMBS.” With private label RMBS, the investor – typically an institutional investor such as a pension fund, investment fund, mutual fund and insurance company – would invest directly in a pool of uninsured mortgages without any government backing for repayment. The development of such a market would provide a funding alternative that might enable the federal government to tighten further the requirements for government support of residential mortgages through the CMHC’s securitization programs. Furthermore, it could also lead to further competition in the mortgage market by providing a funding source for mortgages that do not conform with CMHC requirements for insurance or those of the Office of the Superintendent of Financial Institutions (OSFI) applicable to federally regulated financial institutions. This Commentary argues that the best way to address the refinancing risk arising from the term and amortization mismatch would be to facilitate the introduction of a residential mortgage product that does not mature every five years, but matures when it is fully amortized. This product could include an interest rate reset and penalty-free right of redemption at least every five years. Under the current state of the law this can be achieved only by amendment to Section 10(1) of the Interest Act. If Parliament decides to amend Section 10(1), it should also consider lengthening the five-year penalty free redemption right to up to 10 years, thus making it easier for lenders to offer longer-term fixed-rate mortgages to borrowers who would prefer a longer interest rate lock-in period – a move that would also encourage the development of the private label RMBS market in Canada.

Why do borrowers choose suboptimal mortgage contracts?: A behavioral economics approach

Mortgage contracts have evolved to include a variety of contract design features whose aim is to address the demand of heterogeneous borrowers. Given that borrowers know best their budget constraints and preferences for risk exposure, the question is why many borrowers fail to maximize their welfare through the choice of mortgage contract. The aim of this paper is to explain the causes of suboptimal outcomes in the mortgage market, relying on the theoretical framework of behavioral economics. The first part of the paper provides an overview of the main differences between the rational choice and behavioral economics approach to contract efficiency and discusses the most relevant cognitive biases, identified within behavioral economics. The second part of the paper applies the findings of the two approaches to the issue of mortgage contracts. Considerable attention is devoted to contract design features that are expected to exacerbate the borrower's cognitive biases. Finally, the paper addresses the issue of why market forces fail to 'debias' borrowers and, hence, eliminate inefficient mortgage terms.

The Influence of Earnings Risk on Mortgage Terms and Performance

The Influence of Earnings Risk on Mortgage Terms and Performance

Financial Decision Making When Buying and Owning a Home

In this paper we investigate if financially sophisticated households, as measured by schooling and work experience, are less likely to make financial mistakes when buying and owning a home. Surprisingly, we find that financial sophistication does not have a uniform impact across households’ financial decisions. While sophisticated households are less likely to pay too high a mortgage rate and more likely to refinance when it is financially advantageous to do so, they are also more likely to over pay for a house and less likely to default when significantly underwater in their mortgages. We argue that some decisions, like purchasing a home or defaulting on a mortgage, are emotional decisions while others, like deciding on mortgage terms or when to refinance, are analytical decisions more amenable to the analyses that sophisticated households are able engage in. Consistent with this, we provide evidence that households learn over time to make better mortgage rate and refinancing decisions but not better house purchase price decisions.

Austere Subjectivity and Tea Parties

The 2007-2008 global economic crisis puts in stark relief the corporatestate alliance within our contemporary neoliberalist common sense. Citizens of nation-states in times of economic crisis assume responsibility for private companies’ failure, while corporate profi ts remain privatized in times of plenty. According to Nomi Prins, by summer 2009, “the [US] federal government’s bailout of the banks (including all federal loans, capital injections, and government loan guarantees) stood at approximately $13.3 trillion, roughly divided into $7.6 trillion from the Fed, $2.5 trillion from the Treasury (not including additional interest payments) $1.5 trillion from the FDIC (including a $1.4 trillion Temporary Liquidity Guarantee program [TLGP] initiated in October 2008 to help banks continue to provide lending to consumers), a $1.4 trillion joint effort and a $300 billion housing bill” (Prins 2010, 13-14). In saving the banks at all costs, the US Department of Treasury and Federal Reserve governed through Keynesian policies of governmental investment. They became the buyers of last resort to mitigate mass unemployment and prices because private enterprise lacked the capital to back all of its toxic assets. With the exception of the debilitated 2010 Dodd-Frank Wall Street Reform and Consumer Protection Act, the Federal Reserve and Treasury did not, however, implement new fi nancial and banking regulations, or force the banks to renegotiate mortgage terms in light of skyrocketing unemployment. These processes indicate the functional priorities of the Fed for the banking and fi nance industries over any constellation of the “public,” as well as the increased power of fi nancial services in everyday life. 1 The Federal Reserve continues to this day an expansionist stimulus program of buying bonds to keep interest rates low, thereby facilitating economic growth by assuming 1 The use and abuse of taxpayer money to maintain lucrative end-of-year bonuses for even the companies that had to be bailed out shows an especially galling instance of fi nancial priorities. See Robert Reich for an extended diagnoses of the abuses and outrage of those involved in bailing out the banks and ensuring their fi nancial well-being with an assumed sense that the banks would be either shamed or feel obligated to lend once they were again solvent, an argument that makes no sense given banking’s raison d’etre.

Barriers to Co-Contribution in Superannuation: a Comparative Assessment of the Financial Benefits of Scheme Participation

Voluntary superannuation contributions provide a means for individuals to top-up their savings in a tax advantaged environment. In order to encourage voluntary contributions the government instituted the co-contribution scheme in 2003. Under the existing scheme, within a given financial year the government contributes up to a maximum of $500 when an individual on a low income makes a voluntary contribution of up to $1,000. Despite the apparent financial attractiveness of the scheme, participation among eligible persons is low. Reasons may include competing expenditure needs leading to a lack of sufficient funds for contribution, lack of trust in the system given regular changes to superannuation policy, and behavioural reasons including a short-term rather than long-term focus, procrastination from uncertainty and fear of regret, and loss aversion. In this paper we investigate another possible reason for low participation, namely poor financial opportunity cost. While an immediate 50% investment return may appear to be a ‘no-brainer’, for eligible individuals or families with mortgages, scheme participation may in fact not be optimal. We investigate the relative benefit of scheme participation versus reducing a mortgage, and conclude that while participation is sensible for those with short remaining mortgage terms, for those with longer mortgage terms the decision to participate may not be preferred unless one assumes generous long-term superannuation investment returns, or unless scheme participation is intended year on year for long durations.