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Robbing the Bank: Non-recourse Lending and Asset Prices

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  • Andrey Pavlov
  • Susan Wachter

Abstract

We investigate the market prices of assets in fixed supply whose purchase is typically financed through non-recourse loans. The largest and most common asset in this category is real estate. We demonstrate two features of such markets: • lenders' underpricing of the put option contained in non-recourse loans leads to inflated asset prices within efficient markets, and • lenders with short-term horizons have incentives to underprice the put option. These results hold when participants in both equity and debt markets are rational. The model also allows for management compensation that is aligned with maximizing bank shareholders' value. Using real estate transaction data we find empirical evidence consistent with the predictions of the model.

Suggested Citation

  • Andrey Pavlov & Susan Wachter, 2004. "Robbing the Bank: Non-recourse Lending and Asset Prices," The Journal of Real Estate Finance and Economics, Springer, vol. 28(2_3), pages 147-160, March.
    • Handle: RePEc:kap:jrefec:v:28:y:2004:i:2_3:p:147-160
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    Cited by:

    1. Anundsen, André Kallåk & Heebøll, Christian, 2016. "Supply restrictions, subprime lending and regional US house prices," Journal of Housing Economics, Elsevier, vol. 31(C), pages 54-72.
    2. Richard Green & Roberto Mariano & Andrey Pavlov & Susan Wachter, 2009. "Misaligned Incentives and Mortgage Lending in Asia," NBER Chapters, in: Financial Sector Development in the Pacific Rim, pages 95-111, National Bureau of Economic Research, Inc.
    3. Bradford Case & Susan Wachter, 2005. "Residential real estate price indices as financial soundness indicators: methodological issues," BIS Papers chapters, in: Bank for International Settlements (ed.), Real estate indicators and financial stability, volume 21, pages 197-211, Bank for International Settlements.
    4. Huang, Daisy J. & Leung, Charles K. & Qu, Baozhi, 2015. "Do bank loans and local amenities explain Chinese urban house prices?," China Economic Review, Elsevier, vol. 34(C), pages 19-38.
    5. Andrey Pavlov & Eva Steiner & Susan Wachter, 2015. "Macroeconomic Risk Factors and the Role of Mispriced Credit in the Returns from International Real Estate Securities," Real Estate Economics, American Real Estate and Urban Economics Association, vol. 43(1), pages 241-270, March.
    6. Susan Wachter & Man Cho & Moon Joong Tcha, 2014. "The global financial crisis and housing: a new policy paradigm," Chapters, in: Susan Wachter & Man Cho & Moon Joong Tcha (ed.), The Global Financial Crisis and Housing, chapter 1, pages 3-18, Edward Elgar Publishing.
    7. Nam, Tong-yob & Oh, Seungjoon, 2021. "Non-recourse mortgage law and housing speculation," Journal of Banking & Finance, Elsevier, vol. 133(C).

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