February 17, 2013
THERE WAS NO BORROWING CRISIS, JUST LENDER FRAUD:
Asset Quality Misrepresentation by Financial Intermediaries: Evidence from RMBS Market (Tomasz Piskorski, Columbia Business School - Finance and Economics, Amit Seru, University of Chicago - Booth School of Business and NBER, James Witkin, Columbia University - Columbia Business School, February 12, 2013, SSRN)
Posted by Orrin Judd at February 17, 2013 11:17 AMWe contend that buyers received false information about the true quality of assets in contractual disclosures by intermediaries during the sale of mortgages in the $2 trillion non-agency market. We construct two measures of misrepresentation of asset quality -- misreported occupancy status of borrower and misreported second liens -- by comparing the characteristics of mortgages disclosed to the investors at the time of sale with actual characteristics of these loans at that time that are available in a dataset matched by a credit bureau. About one out of every ten loans has one of these misrepresentations. These misrepresentations are not likely to be an artifact of matching error between datasets that contain actual characteristics and those that are reported to investors. At least part of this misrepresentation likely occurs within the boundaries of the financial industry (i.e., not by borrowers). The propensity of intermediaries to sell misrepresented loans increased as the housing market boomed, peaking in 2006. These misrepresentations are costly for investors, as ex post delinquencies of such loans are more than 60% higher when compared with otherwise similar loans. Lenders seem to be partly aware of this risk, charging a higher interest rate on misrepresented loans relative to otherwise similar loans, but the interest rate markup on misrepresented loans does not fully reflect their higher default risk.
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