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"Cherry picking" in subprime mortgage securitizations: Which subprime mortgage loans were sold by depository institutions prior to the crisis of 2007?

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  • Calem, Paul
  • Henderson, Christopher
  • Liles, Jonathan

Abstract

Depository institutions may utilize securitization to "cherry pick," meaning to transfer risk to investors along dimensions that the investors tend to disregard or misperceive. Using Home Mortgage Disclosure Act data merged with data on subprime loan delinquency by ZIP code, this paper examines sale of "high cost" mortgages by depository institutions during the subprime lending boom of 2005 and 2006. We find that the likelihood of sale increases with risk along dimensions viewed as indicative of cherry picking; for instance, it is positively associated with future, subprime delinquency rates across neighborhoods. In contrast, along the dimension of mutually observed and priced risk as represented by APR spread, likelihood of sale decreases with risk. Thus, the paper reinforces the view, increasingly prevalent in the literature, that inattention to or misperception of risk by the securitization market played a significant role in the subprime lending boom and subsequent market collapse.

Suggested Citation

  • Calem, Paul & Henderson, Christopher & Liles, Jonathan, 2011. ""Cherry picking" in subprime mortgage securitizations: Which subprime mortgage loans were sold by depository institutions prior to the crisis of 2007?," Journal of Housing Economics, Elsevier, vol. 20(2), pages 120-140, June.
  • Handle: RePEc:eee:jhouse:v:20:y:2011:i:2:p:120-140
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    References listed on IDEAS

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    Cited by:

    1. Frame, W. Scott, 2017. "Agency Conflicts in Residential Mortgage Securitization: What Does the Empirical Literature Tell Us?," FRB Atlanta Working Paper 2017-1, Federal Reserve Bank of Atlanta.
    2. Henderson, Christopher & Lang, William W. & Jackson, William E., 2015. "Insider bank runs: community bank fragility and the financial crisis of 2007," Working Papers 15-9, Federal Reserve Bank of Philadelphia.
    3. Michal Jurek & Pawel Marszalek, 2014. "Subprime mortgages and the MBSs in generating and transmitting the global financial crisis," Working papers wpaper40, Financialisation, Economy, Society & Sustainable Development (FESSUD) Project.
    4. James P. Dow, 2016. "Mortgage originations during 2002-2007 as an example of an evolutionary market," Journal of Evolutionary Economics, Springer, vol. 26(5), pages 1007-1032, December.

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