When Should Retirees Tap Their Home Equity?

50 Pages Posted: 8 Sep 2020

See all articles by Christoph Hambel

Christoph Hambel

Goethe University Frankfurt

Holger Kraft

Goethe University Frankfurt

André Meyer-Wehmann

Goethe University Frankfurt

Date Written: August 27, 2020

Abstract

This paper studies a household's optimal demand for a reverse mortgage. These contracts allow homeowners to tap their home equity to finance consumption needs. In stylized frameworks, we show that the decision to enter a reverse mortgage is mainly driven by the differential between the aggregate appreciation of the house price and principal limiting factor on the one hand and the funding costs of a household on the other hand. We also study a rich life-cycle model that can explain the low demand for reverse mortgages as observed in US data. In this model, we analyze the optimal response of a household that is confronted with a health shock or financial disaster. If an agent suffers from an unexpected health shock, she reduces the risky portfolio share and is more likely to enter a reverse mortgage. On the other hand, if there is a large drop in the stock market, she keeps the risky portfolio share almost constant by buying additional shares of stock. Besides, the probability to take out a reverse mortgage is hardly affected.

Keywords: reverse mortgage, consumption-portfolio decisions, optimal stopping, bio-metric risks, financial disasters

JEL Classification: D14, E21, G11, G21, J14, R21

Suggested Citation

Hambel, Christoph and Kraft, Holger and Meyer-Wehmann, André, When Should Retirees Tap Their Home Equity? (August 27, 2020). Available at SSRN: https://ssrn.com/abstract=3681834 or http://dx.doi.org/10.2139/ssrn.3681834

Christoph Hambel

Goethe University Frankfurt ( email )

Faculty of Economics and Business
Theodor-W.-Adorno-Platz 3
Frankfurt am Main, 60323
Germany

Holger Kraft (Contact Author)

Goethe University Frankfurt ( email )

Faculty of Economics and Business
Theodor-W.-Adorno-Platz 3
Frankfurt am Main, 60323
Germany

André Meyer-Wehmann

Goethe University Frankfurt

Faculty of Economics and Business
Theodor-W.-Adorno-Platz 3
Frankfurt am Main, 60323
Germany

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