Marsha Courchane

Subprime Borrowers: Mortgage Transitions and Outcomes

Public policy concerns increasingly have focused on subprime lending. Our research uses a survey of prime and subprime borrowers to address whether borrowers “inappropriately” are channeled to the subprime segment, if once having taken out a subprime mortgage borrowers are “stuck” in this market segment, and whether borrowers face higher costs by taking out subprime mortgages. We find that subprime borrowers are less knowledgeable about the mortgage process, are less likely to search for the best mortgage rates, and are less likely to be offered a choice among alternative mortgage terms and instruments—possibly making them more vulnerable to unfavorable mortgage outcomes. Our analysis of market segmentation confirms that typical mortgage underwriting criteria are most important in explaining whether borrowers obtain prime or subprime mortgages—higher credit risk borrowers are more likely to get a subprime loan. Our results further show that search behavior and other demographic factors including adverse life events, age, and Hispanic ethnicity contribute to explaining market segment, suggesting that borrowers may inappropriately receive subprime mortgages. While we find some persistence to market segment—borrowers are more likely to take out a subprime mortgage if their previous mortgage came from the subprime segment—we also find that market segment is not immutable. Analysis of the survey responses indicates that borrowers with subprime mortgages significantly are more dissatisfied with their mortgage outcomes. This is not surprising because subprime borrowers look worse across typical mortgage underwriting criteria. Consistent with policy concerns, however, despite holding constant these and other factors, taking out a mortgage in the subprime segment, by itself, appears to increase dissatisfaction with mortgage outcomes. We do not provide a definitive answer to the question of whether subprime lending, on balance, serves homebuyers well by providing access to mortgage credit to those otherwise constrained, or rather serves homebuyers poorly by inappropriately assigning them to a market where costs are high and the ability to transition to more attractive prime mortgages remains low. Our analysis, however, does provide some empirical support for concerns raised by critics of subprime lending, and for this reason justifies continued public policy debate and analysis.

On the Robustness of Racial Discrimination Findings in Mortgage Lending Studies

That mortgage lenders have complex underwriting standards, often differing legitimately from one lender to another, implies that any statistical model estimated to approximate these standards, for use in fair lending determinations, must be misspecified. Exploration of the sensitivity of disparate treatment findings from such statistical models is, thus, imperative. We contribute to this goal. This article examines whether the conclusions from several bank-specific studies, undertaken by the Office of the Comptroller of the Currency, are robust to changes in the link function adopted to model the probability of loan approval and to the approach used to approximate the finite sample null distribution for the disparate treatment hypothesis test. Our evidence, of discrimination findings that are reasonably robust to the range of examined link functions, suggests that regulators and researchers can be reasonably comfortable with their current use of the logit link. Based on several features of our results, we advocate regular use of a resampling method to determine p-values.

Differential Access to and Pricing of Home Mortgages: 2004 Through 2009

This article documents trends and drivers of the residential mortgage market during the years 2004 through 2009, specifically focusing on the access to and pricing of mortgages originated by African‐American and Hispanic borrowers, and by borrowers living in low‐income and minority communities. Our analysis relies on a rich set of proprietary data that allow more expanded insights than can be obtained from the Home Mortgage Disclosure Act (HMDA) alone. We show that access to mortgage credit increased between 2004 and 2006 for the borrowers we focus on in our study and declined dramatically thereafter. Trends in access to credit were driven primarily by the changing credit mix of mortgage applicants and secondarily by the replacement of the Federal Housing Administration (FHA) for subprime as the dominant mode of nonprime originations and tighter underwriting standards. Throughout our entire period of study, these borrowers also consistently paid higher prices for their mortgages; however, the extent of this differential varied considerably over time and across groups. These pricing trends were driven primarily by changes in the FHA and subprime shares as well as by the markets increasingly aggressive pricing of credit risk.

Underwriting Standards, Loan Products and Performance: What Have We Learned?

Responses to the mortgage market crisis of the past decade led to myriad changes in the structure of the industry, expanded market regulations, and resulted in a shift in the composition of products being offered to borrowers. To name but a few changes, the subprime market virtually disappeared, the Dodd-Frank bill added both Qualified Mortgage (“QM”) and Qualified Residential Mortgage (“QRM”) requirements to the regulatory environment, the 30-year fixed rate mortgage (“FRM”) almost monopolized product space, and lenders significantly tightened their underwriting standards. On the positive side, these changes reduce the likelihood of another foreclosure crisis, but they do so at the cost of significantly reducing access to credit for borrowers making small down payments or those with poor credit histories. Mortgage histories from the past decade now contribute to unique data on the performance of a wide variety of products during stressful economic environments. The aim of this paper is to assess whether these data can be leveraged in a traditional automated underwriting system to responsibly extend credit to underserved borrowers. We find that traditional automated underwriting systems do offer potential for addressing access to credit concerns for these borrowers. They are unlikely to be a panacea by themselves, but they appear to offer a valuable tool to those trying to extend credit to targeted borrowers at acceptable risks.

Borrowers from a Different Shore: Asian Mortgage Market Outcomes

Even though Asians are the largest minority group participating in United States mortgage markets, research on differences in underwriting and pricing outcomes in mortgages typically focuses on the outcomes of African American/Black or Latino/Hispanic borrowers. One explanation for this lack of attention on Asian outcomes follows from the relative economic prosperity of this minority group, which may lead to the belief that they are not in need of consumer protection. While simple group averages support this belief, many researchers claim that the heterogeneity of Asian experiences dictates the use of other measures to account for the varied outcomes of Asian Americans. Using public and private sources of lender data, we examine these issues in U.S. mortgage markets. We find that Asians face challenges in mortgage markets in ways that may be unique as compared to other minority groups. While an examination of unadjusted average denial rates indicates favorable outcomes for Asians compared to other minority groups, we find that after accounting for loan and borrower characteristics, Asians have the highest denial rates among minority groups.

Mortgage Players and Products

In this paper, we examine the changes in underwriting standards over the past decade. Our focus is on the substitutability among mortgage players and products, with an emphasis on how standards have tightened in response to the subprime crisis.

Comment on Donald R. Haurin and Hazel A. Morrow-Jones's "The Impact of Real Estate Market Knowledge on Tenure Choice: A Comparison of Black and White Households"

Abstract Haurin and Morrow‐Jones analyze a sample of survey respondents from Columbus, OH, and find that additional knowledge about real estate markets increases the likelihood of homeownership. They conclude that differences in real estate knowledge contribute importantly to explaining some of the racial gap in homeownership rates; this finding leads to their conclusion that the racial gap can be addressed through public policy interventions, including financial counseling programs. Their research broadly addresses three questions: Why does the racial gap in homeownership exist? Why does it persist? What can be done to reduce it? We compare their findings with those of other researchers and conclude that improved financial literacy may well be an important tool for reducing the gap, but that the causes for its existence and persistence are complex and that improving financial literacy alone may not be sufficient to have a significant and lasting impact.