High Ltv Loans and Credit Risk
39 Pages Posted: 2 Dec 2003
Date Written: September 20, 2002
This study examines the pricing of high-LTV debt to determine whether state-specific default laws have an impact on the availability and cost of that debt. We develop a simple theoretical model that provides predictions concerning borrower and lender choice of mortgage terms under differing assumptions regarding state default regulations. We examine whether lenders rationally price loans to higher risk borrowers and whether borrowers in states that limit lender ability to seek default remedies pay higher credit costs. Our results indicate that lenders rationally price loans to higher risk borrowers for the most part; however, when we focus on smaller and smaller FICO scores buckets, the results indicate that the mean actual loan rates are higher than those predicted by our model. The results also indicate that state-specific default laws do have an impact on the price of credit. The results also show that there is a greater degree of error in the pricing of high LTV loans to low FICO borrowers than to high FICO borrowers.
Keywords: credit risk, high LTV, loan-to-value, mortgage
JEL Classification: R0, G2
Suggested Citation: Suggested Citation