John P. Harding

ESTIMATING BARGAINING POWER IN THE MARKET FOR EXISTING HOMES

Although bargaining is common in markets for heterogeneous goods, it has largely been ignored in the hedonic literature. In a break from that tradition, we establish sufficient conditions that permit one to identify the effect of buyer and seller bargaining on hedonic models. Our model is estimated using a previously overlooked feature of the American Housing Survey that permits us to observe characteristics of both buyers and sellers. Results suggest that household wealth, gender, and other demographic traits influence bargaining power. In addition, variation in bargaining power arising from the presence of school-age children accounts for anomalous seasonal patterns reported in various widely cited indices of quality-adjusted house prices.

Explaining the Variation in Reit Capital Structure: The Role of Asset Liquidation Value

We test the Shleifer-Vishny hypothesis that asset liquidation values influence both firm leverage and the choice of debt maturity. Using panel data on real estate investment trusts, we estimate a simultaneous equation model and find that firms specializing in the most (least) liquid assets use more (less) leverage and longer (shorter) maturities. The evidence also suggests that, for REITs, debt maturity and leverage are substitutes, consistent with the theory and predictions of Barclay, Marx and Smith.

Movers and Shuckers: Interdependent Prepayment Decisions

We model competing risks of mortgage termination where the borrower faces a repeated choice to continue to pay, refinance the loan, move or default. Most previous empirical work on mortgage prepayment has ignored the distinction between prepayments triggered by refinancing and moving, combining them into a single prepayment rate. We show that financial considerations are the primary drivers of the refinance choice while homeowner characteristics have more influence on the move decision. We demonstrate that these differences are statistically significant and that combining these two distinct choices into a single measure of prepayment shifts coefficients toward zero and produces inaccurate predictions of aggregate termination rates. For example, a combined model underestimates the effect of the market price of the loan on refinancing; it misses entirely the opposite effects of borrower income on moving and refinancing. Our results suggest that existing prepayment models are inconsistent predictors of mobility-driven prepayment and underestimate the effect of market conditions and borrower characteristics on refinancing and housing decisions. Our findings have great significance to mortgage investors because mobility-driven prepayments are likely to be a more significant source of prepayments in thenext decade. Copyright 2001 by the American Real Estate and Urban Ecopnomics Assocaition.

Do Owners Take Better Care of Their Housing Than Renters

According to conventional wisdom, homeowners take better care of their housing than do renters, as a result of the rental externality. We argue that two forms of homeowner externality ootentially create similar incentives for owners to undermaintain their housing. The first is due to the inability of prospective buyers to fully observe past seller maintenance, and the second is a result of the limited liability of borrowers in the event of mortgage default. Empirical analysis verifies the existence of the mortgage externality, but we find no evidence for the resale externality. Copyright American Real Estate and Urban Economics Association.

A Closed Form Formula for Valuing Mortgages

We develop a closed form formula for the value of a fixed-rate residential mortgage that includes the provision that the borrower can prepay at any time with no penalty. The value of the mortgage equals the expectation, under the risk neutral probability measure, of the future cash flows. We model future cash flows by estimating an empirical model of prepayment behavior. A second change of measure leads to a closed form expression for the expectation. The closed form values explain most of the time series variation in MBS prices. The closed form formula significantly shortens the time to calculate mortgage values and durations and can be a useful tool for portfolio management and hedging.

Do Investors See Through Mistakes in Reported Earnings

This study investigates whether investors see through materially misstated earnings, and whether they anticipate earnings restatements. For firms that restate at least one annual report, we find that investors are misled by mistakes in reported earnings at the time of initial earnings announcements. Investors react positively to the component of the favorable earnings surprise that will subsequently be restated, and they attach the same valuation to it as to the true earnings surprise. We also find that investors anticipate the subsequent downward restatements and start marking stock prices down several months before a restatement announcement, so that the full impact of a restatement is about three times as large as the restatement announcement effect. Indeed, we show that investors punish restating firms because the stock price gains that shareholders enjoy when firms initially announce overstated earnings are more than reversed by the time of the restatement announcement.

Renegotiation of Troubled Debt: The Choice between Discounted Payoff and Maturity Extension

Renegotiation of securitized debt contracts is generally a more efficient solution to default than foreclosure when there are significant deadweight costs associated with the enforcement of security rights. Recent literature shows that when renegotiation takes the form of discounted loan payoffs, it eliminates deadweight costs associated with the liquidation or transfer of assets. There is evidence, however, that, in practice, renegotiation of other contract terms such as maturity is a more common form of loan workout. This observation is puzzling because, in general, maturity renegotiation does not eliminate deadweight costs. We provide a partial answer to this puzzle by showing that maturity renegotiation better aligns the incentives of borrowers and lenders than does renegotiation of principal. Specifically, we find that borrowers who expect that lenders will renegotiate maturity in the event of default have less incentive to divert cash flow from the collateral during the term of the loan and less incentive to take on additional risk. If the lender’s cost of managing these standard agency problems is positively related to the magnitude of the borrower’s incentive, then maturity renegotiation will result in lower monitoring and enforcement costs.

Investment characteristics of low- and moderate-income mortgage loans☆

Abstract This paper analyzes the investment characteristics of mortgage loans made to low- and moderate-income households. We combine loan level and borrower data provided by a major state housing finance authority with housing transaction data to identify loans terminated by refinancing, moving, and default. We estimate a multinomial logit model for the three risks of early termination. Measures of investment performance are generated using Monte Carlo simulation where the probability of early termination is based on the estimated multinomial model. We randomly select joint interest rate and house price scenarios. For each scenario, we generate the expected cash flows and calculate traditional investment characteristics such as duration and yield spreads. In order to compare the investment characteristics of low- and moderate-income loans with those of conventional mortgages, we simulate the cash flows and investment characteristics of conventional mortgages using models estimated from a major lender’s significantly higher default rate but a significantly lower refinancing rate when interest rates fall. The termination rate from mobility for the low- and moderate-income loans can be higher or lower than that of conventional mortgage loans, depending on the nature of the scenario. Overall, the low- and moderate-income loan portfolio has a longer duration but less negative convexity than the conventitional portfolio.

Estimating Borrower Mobility from Observed Prepayments

This article describes a method used to estimate parameters describing the mobility of borrowers choosing fixed-rate mortgages. Using a mortgage valuation model that predicts prepayments contingent upon parameters describing the distribution of expected tenure in the home, the average mobility of borrowers can be estimated from observed prepayment behavior. This article estimates the mobility of borrowers who chose fixed-rate mortgages before 1980 and borrowers who chose similar mortgages in the second half of the 1980s, when adjustable-rate mortgages were widely available. The empirical results support the claim that the average mobility of fixed-rate borrowers has declined.

Expected Mobility: Part of the Prepayment Puzzle

This research combines information on mortgage terminations with housing market data to distinguish borrowers who prepay their mortgages because they are moving from those who prepay to refinance without moving. It uses a closed-form valuation formula to compute the callable value of the mortgage and property level data to estimate current loan-to-value ratios. Results show that expected mobility affects borrower behavior in an asymmetric fashion. Borrowers with high expected mobility are less likely to refinance, but borrowers with strong refinancing incentives are not more likely to move. Differentiating movers from refinancers provides a clearer picture of the responsiveness of prepayments to interest rate movements.