Appraisal Inflation and Private Mortgage Securitization

43 Pages Posted: 28 Aug 2020

See all articles by Moussa Diop

Moussa Diop

University of Southern California

Abdullah Yavas

University of Wisconsin - School of Business - Department of Real Estate and Urban Land Economics

Shuang Zhu

Kansas State University - Department of Finance

Date Written: April 10, 2020

Abstract

Lenders’ access to soft information on appraisal inflation could lead to adverse selection in private mortgage securitization. Combining a nationwide mortgage data with a real estate transaction data and using a difference-in-differences empirical design, we document that securitized refinance loans have more than 3% higher appraisal inflation than portfolio loans at key LTV notches. At those notches, securitized mortgages are more likely to default by 19 to 50% in relative terms. The additional credit risk associated with the appraisal inflation on sold notch loans does not seem to be priced in the mortgage rate. The results are robust after controlling for servicer and lender effects, and hold when we infer appraisal inflation from repeat sale transactions or hedonic price estimates. These findings indicate the existence of adverse selection in private securitization where lenders sell mortgages with higher appraisal inflation to MBS investors and keep mortgages with lower appraisal bias in their own portfolios, without compensating investors for the additional credit risk.

Keywords: Appraisal Inflation, Adverse Selection, Mortgage Securitization

JEL Classification: R3, G1, G23, G24

Suggested Citation

Diop, Moussa and Yavas, Abdullah and Zhu, Shuang, Appraisal Inflation and Private Mortgage Securitization (April 10, 2020). Available at SSRN: https://ssrn.com/abstract=3657595 or http://dx.doi.org/10.2139/ssrn.3657595

Moussa Diop

University of Southern California ( email )

Sol Price School of Public Policy
RGL 315
Los Angeles, CA 90089
United States
(213)821-0467 (Phone)

Abdullah Yavas

University of Wisconsin - School of Business - Department of Real Estate and Urban Land Economics ( email )

School of Business
975 University Avenue
Madison, WI 53706
United States

Shuang Zhu (Contact Author)

Kansas State University - Department of Finance ( email )

Manhattan, KS 66506
United States

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