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Taking the Lie Out of Liar Loans: The Effect of Reduced Documentation on the Performance and Pricing of Alt-A and Subprime Mortgages

Posted: 1 Dec 2010  

Michael LaCour-Little

Federal National Mortgage Association (Fannie Mae); California State University at Fullerton

Jing Yang

California State University, Fullerton

Date Written: November 29, 2010

Abstract

We examine stated income loans originated by Bear Stearns affiliates during the recent housing market run-up and market collapse. After showing the extent to which these loans have higher default rates than do fully documented loans after controlling for other risk factors, we develop a measure for the extent of likely income over-statement. We then simulate a loan origination process that rejects stated income loan applications with high degrees of likely over-statement and calculate the reduction in default rates that might have been achieved had such an algorithm been in place. Although reduced loan documentation appears to have been priced by lenders, our estimates suggest the risk was under-priced.

JEL Classification: G2

Suggested Citation

LaCour-Little, Michael and Yang, Jing, Taking the Lie Out of Liar Loans: The Effect of Reduced Documentation on the Performance and Pricing of Alt-A and Subprime Mortgages (November 29, 2010). 46th Annual AREUEA Conference Paper. Available at SSRN: https://ssrn.com/abstract=1717063

Michael LaCour-Little (Contact Author)

Federal National Mortgage Association (Fannie Mae) ( email )

3900 Wisconsin Avenue, NW
Washington, DC 20016-2892
United States
202-752-3318 (Phone)

California State University at Fullerton ( email )

5133 Mihaylo Hall
Fullerton, CA 92834-6848
United States
657-278-4014 (Phone)
657-278-2161 (Fax)

Jing Yang

California State University, Fullerton ( email )

800 N State College St
Fullerton, CA 92831
United States

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