Term Default, Balloon Risk, and Credit Risk in Commercial Mortgages

Tu, Charles; Eppli, Mark J.

doi:10.3905/jfi.2003.319359

Cited by 7 publications

(5 citation statements)

References 27 publications

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“…8 It is unclear what effect a balloon structure will have on this moral hazard problem. The borrower has incentives to maintain the property in anticipation of a negotiated settlement in situations where the borrower is unable to pay off the loan at the scheduled balloon date (see Tu and Eppli 2002). Alternatively, since the balloon structure effectively shortens the maturity of the put option, there is more incentive for the borrower to underinvest in the property.…”

Section: Contract Incompletenessmentioning

confidence: 99%

The Termination of Commercial Mortgage Contracts through Prepayment and Default: A Proportional Hazard Approach with Competing Risks

Ciochetti

Deng

Gao

et al. 2002

Real Estate Economics

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This article examines the factors driving the borrower's decision to terminate commercial mortgage contracts with the lender through either prepayment or default. Using loan-level data, we estimate prepayment and default functions in a proportional hazard framework with competing risks, allowing us to account for unobserved heterogeneity. Under a strict definition of mortgage default, we do not find evidence to support the existence of unobserved heterogeneity. However, when the definition of mortgage default is relaxed, we do find some evidence of two distinctive borrower groups. Our results suggest that the values of implicit put and call options drive default and prepayment actions in a nonlinear and interactive fashion. Prepayment and default risks are found to be convex in the intrinsic value of call and put options, respectively. Consistent with the joint nature of the two underlying options, high value of the put/call option is found to significantly reduce the call/put risk since the borrower forfeits both options by exercising one. Variables that proxy for cash flow and credit conditions as well as "ex post" bargaining powers are also found to have significant influence upon the borrower's mortgage termination decision. Copyright 2002 American Real Estate and Urban Economics Association.

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Section: Contract Incompletenessmentioning

confidence: 99%

The Termination of Commercial Mortgage Contracts through Prepayment and Default: A Proportional Hazard Approach with Competing Risks

Ciochetti

Deng

Gao

et al. 2002

Real Estate Economics

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“…2012, Fabozzi, Stanescu and Tunaru 2013, Levitin and Wachter 2013). Threats to investment return associated with balloon payments include refunding or extension risk (the loan lasting past the balloon date), term default (default on the balloon due date) and the costs/risks of workout on defaulted loans (minimizing losses after the default) (MacDonald and Holloway 1996, Tu and Eppli 2003, Eppli and Tu 2005, Chen and Deng 2012). This line of research emphasizes that even if the equity position and the cash flow position are acceptable, constraints on credit availability can restrict refinancing.…”

Section: Motivation and Literaturementioning

confidence: 99%

Early Termination of Small Loans in the Multifamily Mortgage Market

Pennington‐Cross

Smith

2017

Real Estate Economics

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This article uses micro‐level data on small (as defined by Fannie Mae) multifamily loans in the Fannie Mae loan portfolio to examine prepayment and default performance. The results document the importance of equity, as measured by the loan‐to‐value ratio, and contemporaneous property operating income relative to debt service obligations, as measured by the debt‐to‐income ratio. Our results indicate that the expiration of prepayment penalties and yield maintenance provisions lead to large spikes in prepayment and default. The results also illustrate that multifamily loans, as they are not fully amortized, also have a substantial risk of both extension and default at term. The operating efficiency of the property, cash reserves and local economic conditions can also impact terminations.

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“…Following Tu and Eppli [2003], we assume the mean growth rate of net operating income (µ N ) to be constant at 3%, which is a reasonable estimate based on economic conditions during the sample period. For each property type, the volatility of the net operating income (σ N ) is approximated by the volatility of the real estate investment trust (REIT) with the similar property type.…”

Section: E X H I B I T 2 Receiver Operating Characteristics Curvementioning

confidence: 99%

“…Similar to Archer et al [2002], they find that contemporaneous LTV are of less importance than contemporaneous DCR in explaining commercial mortgage defaults. Tu and Eppli [2003] define commercial mortgage default risk as the combination of the default risk during the term and the extension risk at the maturity. They use a double trigger model (property value and property cash flow) to investigate the relation between default risk and default risk premium.…”

mentioning

confidence: 99%