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The Behavioral Relationship Between Mortgage Prepayment and Default

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Listed:
  • Arden Hall
  • Ramain Quinn Maingi

Abstract

An implication of the dual trigger theory of default is that mortgage borrowers who experience an unexpected financial reverse will prepay their mortgage rather than default if their equity in the house is positive. We test this idea with a new data set created by matching mortgage servicing records and credit bureau records to classify prepayments by what happens subsequently. In particular, we can identify a subset of prepayments that seems consistent with the dual trigger theory. If the theory is correct, these prepayments should exhibit similarities to defaults in the data set rather than other prepayments. We test this idea and find that these prepayments are in fact more closely related to defaults than to other prepayments. However, our data also support a role for strategic default. Understanding these relationships may be critical in predicting mortgage default when house prices decline after a long period of increases. While our work is only a first step in this direction, we believe that a better understanding how prepayments may be driven by financial reverses would be valuable for participants in and regulators of mortgage markets.

Suggested Citation

  • Arden Hall & Ramain Quinn Maingi, 2021. "The Behavioral Relationship Between Mortgage Prepayment and Default," Working Papers 21-12, Federal Reserve Bank of Philadelphia.
    • Handle: RePEc:fip:fedpwp:90369
    DOI: 10.21799/frbp.wp.2021.12
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    References listed on IDEAS

    as
    1. Xudong An & John Clapp & Yongheng Deng, 2010. "Omitted Mobility Characteristics and Property Market Dynamics: Application to Mortgage Termination," The Journal of Real Estate Finance and Economics, Springer, vol. 41(3), pages 245-271, October.
    2. Jane K. Dokko & Benjamin J. Keys & Lindsay E. Relihan, 2019. "Affordability, financial innovation and the start of the housing boom," CEP Discussion Papers dp1611, Centre for Economic Performance, LSE.
    3. Arden Hall & Ramain Quinn Maingi, 2019. "The Mortgage Prepayment Decision: Are There Other Motivations Beyond Refinance and Move?," Working Papers 19-39, Federal Reserve Bank of Philadelphia.
    4. John M. Clapp & Yongheng Deng & Xudong An, 2006. "Unobserved Heterogeneity in Models of Competing Mortgage Termination Risks," Real Estate Economics, American Real Estate and Urban Economics Association, vol. 34(2), pages 243-273, June.
    5. John M. Clapp & Gerson M. Goldberg & John P. Harding & Michael LaCour‐Little, 2001. "Movers and Shuckers: Interdependent Prepayment Decisions," Real Estate Economics, American Real Estate and Urban Economics Association, vol. 29(3), pages 411-450, March.
    Full references (including those not matched with items on IDEAS)

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    More about this item

    Keywords

    mortgage finance; prepayment; default; nested logit model;
    All these keywords.

    JEL classification:

    • D12 - Microeconomics - - Household Behavior - - - Consumer Economics: Empirical Analysis
    • G51 - Financial Economics - - Household Finance - - - Household Savings, Borrowing, Debt, and Wealth
    • R21 - Urban, Rural, Regional, Real Estate, and Transportation Economics - - Household Analysis - - - Housing Demand

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