Persistency Pays Off: Prepayment Behavior of Affordable Home Mortgages

Publication Date

May 2007

Author(s)

Haiou Zhu, Janneke Ratcliffe, Lei Ding, Michael A. Stegman, Roberto G. Quercia

Client/Funder

Ford Foundation

Abstract

Accurate evaluation of the returns and risks of mortgages to low-income and minority households is vital for determining optimal housing finance practices and policies. One of the most important yet most unpredictable drivers of mortgage economics is the rate at which borrowers pay off their loans.

It has been posited that loans made to low- and moderate- income borrowers have slower and more predictable prepayment rates than other prime mortgages, suggesting that more value should be attributed to these loans.

Using a database of 38,000 mortgages made to low- and moderate-income borrowers through the Self-Help Community Advantage Program (CAP), we find that the CAP mortgages consistently prepaid slower than other comparable mortgage assets. Classic option theory explains much, but not all of this difference.

By examining the drivers of prepayment behavior within the CAP portfolio, we find that risk-related constraints, borrower characteristics, and certain neighborhood characteristics contribute to the prepayment differential.

Finally, we investigate drivers of refinancing and mobility using a subpopulation of borrowers who participate in an annual panel survey.