DEFAULT RISK UNDER ALTERNATIVE MORTGAGE INSTRUMENTS.

A number of proposals have recently been made to permit the introduction of one or a number of alternative instruments of residential mortgage finance (AMI's) as supplements or replacements for the familiar fixed nominal-interest rate, constant payment mortgage (the FRM). These instruments, it is contended, will prove superior to the FRM in responding to lenders' or borrowers' cash flow requirements, increasing mortgage capital flows, and increasing the level of housing consumption and opportunities for homeownership. One of the major issues which has emerged in connection with such proposals and which is hindering such introduction is the effect AMI's would have on default risk by certain borrower groups, particularly young, elderly, poor, non-upwardly mobile, or black households. An increase in default risk could mean the application of more rigorous underwriting standards by lenders, which would result in increased cost or even denial of mortgage credit to these groups. This study empirically addresses this issue through (1) estimation of a model relating variables associated with the borrower, property, and mortgage instrument to the probability of default over time and (2) simulation of default risk under various alternative instruments, carded out by observing the behavior of the estimated model under alternative mortgage conditions. The data used in estimation are generated through respecification of a default model developed by yon Furstenberg, with explanatory variables recast into terms which are not instrument specific. Simulation under a variety of scenarios of borrower and economic conditions permits a broad assessment of the desirability of each AMI. The study is divided into four sections. First, the theoretical basis for model specification is set forth. Second, the model is estimated, and caveats relating to the strength and interpretation of estimation results are made. Third, the model is used to simulate the impact of the introduction o... [ABSTRACT FROM AUTHOR]