Are Foreclosures Contagious?

Abstract

Using a large sample of U.S. mortgages observed over the 2005-2009 period, we find that foreclosures are contagious. After controlling for major factors known to influence a borrower’s decision to default, including borrower and loan characteristics, local demographic and economic conditions, and changes in property values, the likelihood of a mortgage default increases by as much as 24% with a one standard deviation increase in the foreclosure rate of the borrower’s surrounding zip code. We find that foreclosure contagion is most prevalent among strategic defaulters: borrowers who are underwater on their mortgage but are not likely to be financially distressed. Taken together, the evidence supports the notion that foreclosures are contagious.

Keywords: Foreclosure, Contagion, Mortgages, Learning, Stigma