Discontinuity in Relative Credit Losses: Evidence from Defaults on Government-Insured Residential Mortgages
24 Pages Posted: 24 Jul 2016
Date Written: July 22, 2016
Abstract
This paper investigates the distribution of relative credit losses given mortgage default for loans provided by a major government-sponsored creditor in a local area. We use borrower’s individual and loan-level data on residential mortgages originated in the period 2008–2012. Our numerical analysis indicates that mortgages bunching at certain Loan-to-Value ratios (LTV) led to a discontinuity in relative credit loss given mortgage default. Through regression analysis, we demonstrate discrete jumps in the approximated historical credit losses generated by loans with a high LTV ratios and find thresholds allowing the segmentation of loans according their credit risk. In addition, our results suggest that mortgage insurance is a potentially valuable instrument for compensation for expected loss in certain risk segments.
Keywords: discontinuity; credit risk; mortgage default; government mortgage lending programs; loss evaluation
JEL Classification: C21; G21; G32; R20; R58
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