A profile-analytic approach for classifying debt reschedulings in the Asia pacific region

For years, international lenders have looked for new methods for evaluating both the ability and willingness of sovereign borrowers to repay their external debt obligations. This paper presents an application of a classification technique, known as profile-analysis, which might be used as an early warning indicator for the interruption of sovereign debt payments. The potential usefulness of this technique was demonstrated by successfully classifying the Philippines as a candidate for debt rescheduling one year prior to its 1984 debt restructuring agreement. Although preliminary in scope, this study suggests that profile-analysis might be an important supplement in the management of an international loan portfolio.     

Equity Dilution: An Alternative Perspective on Mortgage Default

Empirical research on mortgage default in the single-family market has focused on the value of the borrower's put option using house price indices to estimate contemporaneous loan-to-value ratio or the probability of negative equity. But since the borrower possesses the option to increase leverage by taking on additional debt secured by junior liens subsequent to loan origination (a phenomenon termed here equity dilution ), even a perfect house price adjustment cannot be expected to accurately measure changes in borrower equity over time. Since junior liens are generally unobservable to senior debt holders, proxies are required in empirical applications. This paper employs an independent estimate of junior lien probability developed from the 1998 Survey of Consumer Finances combined with loan level mortgage performance data to examine the role junior liens play in increasing default risk.     

How Does Mortgage Debt Affect Household Consumption? Micro Evidence from China

The high growth rate of mortgage debt in various emerging and developed economies has captured headlines following the financial crisis. In this article, we investigate how mortgage debt impacts household consumption behavior and various components of household consumption. Utilizing comprehensive household survey data from China, we show that households with a mortgage consume a higher portion of income than households without a mortgage. This is in line with the argument that having a mortgage reduces the uncertainty that the household faces regarding how much to save each month in order to be able to own a house, and this reduced uncertainty leads to lower monthly savings for the purpose of buying a house. We also find that among households with a mortgage, those who spend a larger share of their income on mortgage payments spend less on consumption, reflecting the crowding out effect of mortgage payments on household consumption. Furthermore, we show that a government policy of decreasing the maximum loan‐to‐value ratio has a significant impact on households’ consumption. The article offers the first evidence of the impact of growing mortgage debt on the consumption behavior of households, and will have implications for government policies that encourage mortgage borrowing.     

The Impact of Second Loans on Subprime Mortgage Defaults

An estimated 12.6% of primary mortgage loans were simultaneously originated with a second loan from 2004 until 2008, although relatively little is known about how the presence of such subordinate loans affects the default decisions of borrowers. We use a novel data series of loan servicing records from 2002 until 2010 to identify such borrowers and find evidence that the default behavior of these borrowers significantly differs from borrowers without second loans. Estimating a discrete‐time proportional odds hazard model, we find borrowers with a second loan were 62.7% more likely to default each month on their primary loan when conditioning alone on the attributes of the primary loan. However, borrowers of second loans were 58.3% less likely to default on their primary loan as compared to single‐loan borrowers with equivalent current combined attributes (i.e., loan‐to‐value, balance and interest rate). We hypothesize and provide empirical evidence that this occurs because borrowers with second loans have the option to sequentially default on each loan since subordinate lenders will not pursue foreclosure if borrowers have insufficient equity. Lenders of defaulted subordinate debt may revisit their decision to foreclose in the future after housing markets start to recover, thus prompting a new round of foreclosures.     

Continuing Education of Professional Employees— A Benefit-Cost Model

This paper makes two refinements to the theory of debt displacement of leasing and Incorporates then into a model of firms' debt capacity. First, the debt displacement effects of particular types of cash flows are explicitly distinguished from the displacement effects of a lease or debt transaction In toto. Second, the tax shield multiplier process originally Identified by Idol is Improved. Estimates of displacement are generated for alternative assumptions about the relationship between the present value of lease obligations and the cost of the underlying asset. For a reasonable set of parameters, we find that leasing displaces seven to twenty-one percent more debt capacity than debt finance     

The Borrower's Choice between Fixed and Adjustable Rate Loan Contracts

Previous research indicates that key variables in the choice between fixed and price index-linked debt are the covariances between inflation and real income and between inflation and the real value of the asset financed by the debt. This model extends those results to adjustable rate loan contracts and examines the impact of covariance between the real interest rate and, in turn, real income and real asset values. Positive (negative) covariance between those terms shifts preference toward the adjustable (fixed) loan contract.     

The substitution effects of short-term debt for long-term debt on the expected returns of common stocks

The determination of the level of corporate borrowing and the choice of debt maturity are the two most important concerns in the management of capital structure. In this study, we examine analytically and empirically the impact of debt maturity changes on the expected returns of common stocks. Using the US stock market data and financial statement data, we examine the cross-sectional relation between expected returns and financial leverage ratios. We find reliable evidence that common stock expected returns are positively related to the extent of short-term debt financing. The positive relation is significant even after we control for systematic risk, total debt ratio and firm size. The results suggest that an increase in short-term debt which displaces the same amount of long-term debt increases the expected returns of common stocks, possibly because the substitution transfers risk from long-term debtholders to shareholders.The author is from the Department of Business Administration, Han Sung University, Seoul, Korea. This paper is based on my dissertation submitted to the School of Management, SUNY at Buffalo (1991). I would like to thank my dissertation committee, Dosoung Choi, Frank Jen and Michael Rozeff, for their invaluable comments throughout the dissertation research.     

Renegotiation of Troubled Debt: The Choice between Discounted Payoff and Maturity Extension

Renegotiation of securitized debt contracts is generally a more efficient solution to default than foreclosure when there are significant deadweight costs associated with the enforcement of security rights. Recent literature shows that when renegotiation takes the form of discounted loan payoffs, it eliminates deadweight costs associated with the liquidation or transfer of assets. There is evidence, however, that, in practice, renegotiation of other contract terms such as maturity is a more common form of loan workout. This observation is puzzling because, in general, maturity renegotiation does not eliminate deadweight costs. We provide a partial answer to this puzzle by showing that maturity renegotiation better aligns the incentives of borrowers and lenders than does renegotiation of principal. Specifically, we find that borrowers who expect that lenders will renegotiate maturity in the event of default have less incentive to divert cash flow from the collateral during the term of the loan and less incentive to take on additional risk. If the lender's cost of managing these standard agency problems is positively related to the magnitude of the borrower's incentive, then maturity renegotiation will result in lower monitoring and enforcement costs.     

Anticipated Growth and the Specification of Debt in Real Estate Value Models

Standard value models for investment real property do not distinguish between current income and future growth in estimating the probable level of debt financing. Analysis of loan commitment data from 1971–1981 suggests that this was not a proper assumption during that period. Consistent with recent models from the literature of the firm, the portion of the value of investment properties attributable to anticipated growth apparently supported less dept than did current income.     

Letter From the Editor

The use of transform techniques can greatly enhance The task of modeling cash flows. Considerable work has been done since Crubbatrom's on the application of transform technique to cash-flow analysis. However, little attention is given to transform techniques by the engineering economics community at large, as evidenced by the lack of ita coverage In engineering economy textbooks. This paper represents the continual effort of the authors to suggest the use of transform techniques for engineering economy problems. A loan problem is formulated using the traditional method, the Zeta-transform method, and a difference equation approach using matrix methods. Simplified results are obtained using closed-form solutions from both the transform and difference equation methods. The loan problem is extended to an equipment financing situation, which is formulated using the Zeta-transform method and the traditional method as well. An illustrative example is included.     

Partial adjustment toward target R&D intensity

Existing research assumes that once firms have determined their target R&D intensity, they can adjust instantaneously and fully to their target R&D intensity, regardless of their past R&D intensity. In this study, we draw on the partial adjustment framework to examine the dynamics of firms' adjustment toward their target R&D intensity. We find that firms usually do not adjust instantaneously or fully to their target R&D intensity; they typically close half of the gap between their past and target R&D intensity in a year. Furthermore, we find that the speed of adjustment varies widely across firms. Firms with more cash flows, less debt, and more new equity financing have higher speed of adjustment. We draw implications for the dynamics of R&D investments and Schumpeterian competition.     

Investment Project Valuation: A New Equity Perspective

We suggest a new approach to calculating a project's net present value, termed the displaced equity method. Based on a straightforward formula, it analyzes a project partially financed with debt from the perspective that every year the amount of outstanding debt displaces an equivalent amount of equity that otherwise would be tied up in the project. Although they represent distinct shareholders' perspectives, the displaced equity method and the equity residual method yield identical net present values and internal rates of return. Every year, the project's value calculated with the displaced equity method is equal to the sum of the project's debt and equity values. In practice, when the schedule of expected outstanding debt amounts is known, using the displaced equity method is an easy way to estimate the project's net present value.     

Financial Flexibility and Manager–Shareholder Conflict: Evidence from REITs

Using equity Real Estate Investment Trust data, we show empirically that the use of unsecured debt, which contains standardized covenants that place limits on total leverage and the use of secured debt, is associated with lower leverage outcomes. We then show that firm value is sensitive to leverage levels, where lower leverage is associated with higher firm value. In the presence of weak managerial governance, our results suggest that unsecured debt covenants function as a managerial commitment device that preserves the firm's debt capacity to enhance financial flexibility.     

Thy Neighbor’s Mortgage: Does Living in a Subprime Neighborhood Affect One’s Probability of Default?

This article focuses on the potential externalities associated with subprime mortgage origination activity. Specifically, we examine whether negative spillover effects from subprime mortgage originations result in higher default rates in the surrounding area. Our empirical analysis controls for loan characteristics, house price changes and alternative loan products. Our results indicate that, after controlling for these characteristics, the concentration of subprime lending in a neighborhood does not lead to greater default risks for surrounding borrowers. However, we do find that more aggressive mortgage products (such as hybrid adjustable rate mortgages and low/no‐documentation loans) had significant negative spillovers on other borrowers. Stated differently, the aggressive alternative mortgage designs were more toxic to the housing and mortgage market than previously believed.     

Home Equity Conversion Instruments with Fixed Term to Maturity: Alternatives to End of Term Pay-Off

Standard reverse annuity mortgages obligate the lender to take on the risk that an elderly homeowner will desire to remain in a residence after the RAM has reached maturity. In this case, the best the lender can hope for is that the property will have appreciated sufficiently that the loan can be carried at interest only. There is a possibility for lender loss but not gain over contracted return.
Alternatives to the standard RAM are explored in this paper with most attention devoted to shared appreciation and shared equity RAMs. These alternative instruments appear to solve the problem of maturity risk.     

Residential-Mortgage Lending Discrimination and Lender-Risk-Compensating Policies

The Boston Federal Reserve study ( Munnell et al. 1996 ) concluded that illegal discrimination is a statistically significant contributor to the observed gap between white and minority residential-mortgage rejection rates. The Boston study speculated that discrimination arises because lenders do not equally apply risk compensation or mitigation policies for imperfect loans. Using the same 1990 Boston loan application data, our study specifically examines the relation between compensating policies and discrimination. Since compensating policies are encouraged by secondary-mortgage-market sale guidelines, we model both the lender's origination decision and its loan sale decision. Using a rule-based artificial-intelligence technique applied to each lender, we infer compensating policies (rules) that equally apply to all races and explain lending decisions. A minority-race indicator loses its statistical significance when an indicator of compensating-policy violations appears in the loan accept–reject equation. This result reflects the fact that the risk levels of marginal minority loans tend to be more extreme than those of marginal white loans. However, the result does not necessarily reject the existence of discrimination. Equally applied policies may be empirically indistinguishable from unfairly applied policies. In addition, equally applied policies may fail the adverse-impact doctrine if they do not serve a business necessity (such as profits). The industry's move away from discretionary, rule-based decisions to mortgage scoring answers the need for a decision framework that rigorously uses loan performance to evaluate all loan applicants fairly.     

Price Premium and Foreclosure Risk

Many previous studies identify loan, property, borrower and environmental factors that impact the probability of foreclosure. Implicit in these studies is the assumption that the property was purchased at fair value. We question this assumption based on several empirical findings regarding property value uncertainty. In contrast to previous research, we explicitly quantify the price premium from a hedonic pricing model. Using a comprehensive database of real estate transactions in Singapore during 1989–2000, we document a price premium associated with properties that are subsequently foreclosed based on actual sales transactions. In addition, we find that the premium paid at purchase significantly increases the probability of foreclosure. These results are robust and continue to hold after controlling for other property-specific factors, time-varying macroeconomic conditions, alternative model specifications and definitions of price premium.     

The Demand and Supply of Mortgage Funds and Mortgage Loan Terms

The supply of and demand for residential mortgages has been the subject of much discussion in the literature. Many of these studies have used single equation, partial adjustment models with the price specified as the contract rate. In this study, two of the assumptions that underlie these previous studies are tested empirically. First, the proper specification of the price of mortgage funds is tested by using both the contract rate alone and all of the terms of the mortgage as the price. Second, the speed of adjustment in the mortgage market is examined by estimating the model in both the instantaneous adjustment and partial adjustment forms. Both of these tests are carried out using a simultaneous equation rather than a single equation model. The empirical results indicate that the contract rate along with the loan initiation fees, the loan-to-value ratio and the maturity is the better specification of price and that the partial adjustment model performs better than the instantaneous model in the mortgage market.     

Capital Structure Theory: Evidence from European Property Companies' Capital Offerings

This study examines the stock price reactions on announcements of both equity and debt offerings by European property companies. The unique setting in which corporate tax rates vary between different countries enables us to test established theories in the field of capital structure. In accordance with theory, we find a negative price reaction on equity offering announcements, which is less severe for low-tax countries and positive price reactions on the announcements of debt offerings. Besides tax arguments, we also test alternative explanations by analyzing variations in stock reactions based on differences in the relative size of the issue, the pre-offer leverage, the underlying property types, and operational performance. The results show that corporate taxation, issue size, and operational performance are significant explanatory factors in the negative price reactions.     

Do Liquidated Damages Clauses Affect Strategic Mortgage Default Morality? A Test of the Disjunctive Thesis

We test the disjunctive thesis as it relates to mortgage contracts and find that a liquidated damages clause shifts ones view of a mortgage from a promise to perform to either a promise to perform or pay compensatory damages. However, when a strategic mortgage default is responsible for the breach, the perceived immorality of this action overwhelms the liquidated damages clause effect in support of the disjunctive thesis. We also find that people's conscious “experimentally stated preference” moral stance on installment loan (mortgages, auto loans, credit card debt and even cell phone contracts) default significantly differs from their subconscious “experimentally revealed preference” moral stance indicating a difference between what people say they believe and what they actually believe.