Robbing the Bank: Non-Recourse Lending and Asset Prices

Posted: 1 Oct 2003

See all articles by Andrey D. Pavlov

Andrey D. Pavlov

Simon Fraser University (SFU) - Finance Area

Susan M. Wachter

University of Pennsylvania - Wharton School, Department of Real Estate ; University of Pennsylvania - Finance Department

Abstract

We investigate the market prices of assets in fixed supply whose purchase is typically financed through non-recourse loans. The largest and most common asset in this category is real estate. We demonstrate two features of such markets: Lenders' underpricing of the put option contained in non-recourse loans leads to inflated asset prices within efficient markets, and lenders with short-term horizons have incentives to underprice the put option. These results hold when participants in both equity and debt markets are rational. The model also allows for management compensation that is aligned with maximizing bank shareholders' value. Using real estate transaction data we find empirical evidence consistent with the predictions of the model.

Keywords: asset pricing, lending markets, price bubbles

Suggested Citation

Pavlov, Andrey D. and Wachter, Susan M., Robbing the Bank: Non-Recourse Lending and Asset Prices. Journal of Real Estate Finance and Economics, Vol. 28, No. 2. Available at SSRN: https://ssrn.com/abstract=436941

Andrey D. Pavlov (Contact Author)

Simon Fraser University (SFU) - Finance Area ( email )

Burnaby, British Columbia V5A 1S6
Canada
604 291 5835 (Phone)
604 291 4920 (Fax)

Susan M. Wachter

University of Pennsylvania - Wharton School, Department of Real Estate ( email )

The Wharton School
3620 Locust Walk
Philadelphia, PA 19104-6330
United States
215-898-6355 (Phone)

HOME PAGE: http://real.wharton.upenn.edu/~wachter/index.html

University of Pennsylvania - Finance Department ( email )

The Wharton School
3620 Locust Walk
Philadelphia, PA 19104
United States

HOME PAGE: http://real.wharton.upenn.edu/~wachter/index.html

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