Optimal Interest Rate-Discount Points Combination: Strategy for Mortgage Contract Terms

Posted: 25 May 1998

See all articles by Roger E. Cannaday

Roger E. Cannaday

University of Illinois at Urbana-Champaign - Department of Finance

Tyler T. Yang

Federal Home Loan Mortgage Corporation (FHLMC) - Portfolio Management

Abstract

This paper is distinguished from previous papers by its focus on income-producing properties, rather than owner-occupied single-family residential properties. The real estate investor's strategy, in terms of choosing an interest rate-discount points combination, is analyzed by using a discounted cash flow approach. Under this framework, the investor with a lower marginal tax rate, lower required rate of return and longer investment horizon tends to negotiate for a mortgage contract with a higher number of discount points and lower interest rate. In addition, an intermediate rate-points combination is preferred by an investor only when the lender's required interest rate is a decreasing convex function of the number of discount points.

JEL Classification: M00

Suggested Citation

Cannaday, Roger E. and Yang, Tyler T., Optimal Interest Rate-Discount Points Combination: Strategy for Mortgage Contract Terms. JOURNAL OF THE AMERICAN REAL ESTATE AND URBAN ECONOMICS ASSOCIATION, Vol 22 No 4, Winter 1994. Available at SSRN: https://ssrn.com/abstract=5555

Roger E. Cannaday (Contact Author)

University of Illinois at Urbana-Champaign - Department of Finance ( email )

1206 South Sixth Street
1206 South Sixth Street
Urbana, IL 61820
United States
217-333-2278 (Phone)
217-244-9867 (Fax)

Tyler T. Yang

Federal Home Loan Mortgage Corporation (FHLMC) - Portfolio Management ( email )

McLean, VA 22101
United States

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