Lenders’ Pricing Strategy: Do Neighborhood Risks Matter?

Abstract

This paper explores the different pricing strategies of lenders who originate both government-sponsored enterprise (GSE) and non-GSE loans. We find that, conditional on loan and borrower characteristics and some observable local economic factors, mortgage rates on GSE loans vary significantly across regions. However, no sizable regional variation is observed in the loan amount or default risk. By contrast, the mortgage rates on non-GSE loans depend almost entirely on borrowers and loan characteristics. In addition, spatial variations in GSE mortgage rates are highly responsive to regional prepayment risk. The results are robust to various controls for neighborhood characteristics, including regional-level bank competition, household income, and racial composition. Overall, the findings offer a novel insight into how lenders adjust pricing strategies in response to a changing lending environment. It provides implications for the present and imminent dangers of housing bubbles predictions and the intensified refinancing wave following the COVID-19 pandemic.

Keywords: refinancing waves, loan pricing, prepayment risk, neighborhood effect, mortgage securitization

JEL Classification: G21, R11, R23