Omitted Mobility Characteristics and Property Market Dynamics: Application to Mortgage Termination

48 Pages Posted: 22 Sep 2005

See all articles by Xudong An

Xudong An

Federal Reserve Banks - Federal Reserve Bank of Philadelphia

Yongheng Deng

Wisconsin School of Business, University of Wisconsin-Madison

John M. Clapp

University of Connecticut - Department of Finance; Homer Hoyt Institute

Date Written: May 23, 2006

Abstract

Property market dynamics depend on changes in long run equilibrium and on impediments to adjustment towards equilibrium. One of the most important aspects of property market dynamics is often attributed to the activities in the mortgage market. However, many impediment factors, such as changes in family status, education, neighborhood effects and job relocation, are often unobservable from micro household-level data. Since these omitted variables contribute to moving decisions and therefore to sale and default decisions, utility functions for sale and default are correlated through these unobservable variables; thus, the IIA assumption of the widely used Multinomial Logit Model (MNL) is violated. Under such circumstances, econometric theory suggests that the Nested Logit Model (NMNL) is a better choice, which obviates the limitation of MNL by allowing correlation in unobserved factors across alternatives.

This paper empirically investigates the omitted household mobility characteristics problem in mortgage termination, and tests NMNL against MNL. Using loan level micro data, we find significant correlation between sale and default due to omitted borrower mobility characteristics. Our simulations find that NMNL out performs MNL in out-of-sample prediction.

Keywords: Mortgage termination risks, Multinomial Logit Model (MNL), Nested Logit Model (NMNL), Mobility, Refinance, Default

JEL Classification: G21, C25, C41, C52, D12

Suggested Citation

An, Xudong and Deng, Yongheng and Clapp, John M., Omitted Mobility Characteristics and Property Market Dynamics: Application to Mortgage Termination (May 23, 2006). Available at SSRN: https://ssrn.com/abstract=803525 or http://dx.doi.org/10.2139/ssrn.803525

Xudong An

Federal Reserve Banks - Federal Reserve Bank of Philadelphia ( email )

Ten Independence Mall
Philadelphia, PA 19106-1574
United States

Yongheng Deng

Wisconsin School of Business, University of Wisconsin-Madison ( email )

4110 Grainger Hall
975 University Avenue
Madison, WI 53706
United States
+1 (608) 262-4865 (Phone)

HOME PAGE: http://bus.wisc.edu/faculty/yongheng-deng

John M. Clapp (Contact Author)

University of Connecticut - Department of Finance ( email )

School of Business
2100 Hillside Road
Storrs, CT 06269
United States
860-983-3685 (Phone)
860-486-0349 (Fax)

Homer Hoyt Institute ( email )

United States

HOME PAGE: http://hoytgroup.org/weimer-school-and-fellows/

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