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The role of the securitization process in the expansion of subprime credit

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Abstract

We analyze the structure and attributes of subprime mortgage-backed securitization deals originated between 1997 and 2007. Our data set allows us to link loan-level data for over 6.7 million subprime loans to the securitization deals into which the loans were sold. We show that the securitization process, including the assignment of credit ratings, provided incentives for securitizing banks to purchase loans of poor credit quality in areas with high rates of house price appreciation. Increased demand from the secondary mortgage market for these types of loans appears to have facilitated easier credit in the primary mortgage market. To test this hypothesis, we identify an event which represents an external shock to the relative demand for subprime mortgages in the secondary market. We show that following the SEC's adoption of rules reducing capital requirements on certain broker dealers in 2004, five large deal underwriters disproportionately increased their purchasing activity relative to competing underwriters in ZIP codes with the highest realized rates of house price appreciation but lower average credit quality. We show that these loans subsequently defaulted at marginally higher rates. Finally, using the event as an instrument, we demonstrate a causal link between the demand for mortgages in the secondary mortgage market and the supply of subprime credit in the primary mortgage market.

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  • Taylor D. Nadauld & Shane M. Sherlund, 2009. "The role of the securitization process in the expansion of subprime credit," Finance and Economics Discussion Series 2009-28, Board of Governors of the Federal Reserve System (U.S.).
    • Handle: RePEc:fip:fedgfe:2009-28
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    Cited by:

    1. Aiyar, Shekhar & Calomiris, Charles W. & Wieladek, Tomasz, 2016. "How does credit supply respond to monetary policy and bank minimum capital requirements?," European Economic Review, Elsevier, vol. 82(C), pages 142-165.
    2. Bikki Jaggi & James P. Winder & Cheng-Few Lee, 2010. "Is There a Future for Fair Value Accounting After the 2008–2009 Financial Crisis?," Review of Pacific Basin Financial Markets and Policies (RPBFMP), World Scientific Publishing Co. Pte. Ltd., vol. 13(03), pages 469-493.
    3. Ashcraft, A. & Goldsmith-Pinkham, P. & Vickery, J., 2010. "MBS Ratings and the Mortgage Credit Boom," Other publications TiSEM aea4b6fb-eb57-49d4-a347-f, Tilburg University, School of Economics and Management.
    4. Luis Otero-Gonzᬥz & Miguel Ezcurra-P鲥z & Rub鮠Lado-Sestayo & Pablo DurᮭSantomil, 2015. "The main determinants of subprime securitization in the Spanish RMBS securities," Applied Economics, Taylor & Francis Journals, vol. 47(58), pages 6301-6316, December.
    5. Fligstein, Neil & Goldstein, Adam, 2011. "Catalyst of Disaster: Subprime Mortgage Securitization and the Roots of the Great Recession," Institute for Research on Labor and Employment, Working Paper Series qt83x2h03n, Institute of Industrial Relations, UC Berkeley.
    6. Taipalus, Katja, 2012. "Detecting asset price bubbles with time-series methods," Scientific Monographs, Bank of Finland, number 2012_047.
    7. John Cotter & Stuart Gabriel & Richard Roll, 2015. "Can Housing Risk Be Diversified? A Cautionary Tale from the Housing Boom and Bust," Review of Financial Studies, Society for Financial Studies, vol. 28(3), pages 913-936.
    8. Zhang, Jiarui & Xu, Xiaonian, 2020. "The effects of the monetary policy on the U.S. housing boom from 2001 to 2006," Research in Economics, Elsevier, vol. 74(4), pages 301-322.
    9. Li, Chunshuo & Ongena, Steven, 2015. "Bank loan announcements and borrower stock returns before and during the recent financial crisis," Journal of Financial Stability, Elsevier, vol. 21(C), pages 1-12.
    10. Kau, James B. & Keenan, Donald C. & Lyubimov, Constantine & Carlos Slawson, V., 2011. "Subprime mortgage default," Journal of Urban Economics, Elsevier, vol. 70(2-3), pages 75-87, September.
    11. Mariko Fujii, 2010. "Securitized Products, Financial Regulation, and Systemic Risk," Working Papers id:3007, eSocialSciences.
    12. Manuel Adelino & Antoinette Schoar & Felipe Severino, 2015. "Loan Originations and Defaults in the Mortgage Crisis: The Role of the Middle Class," NBER Working Papers 20848, National Bureau of Economic Research, Inc.

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    More about this item

    Keywords

    Mortgage-backed securities; Subprime market;

    JEL classification:

    • G21 - Financial Economics - - Financial Institutions and Services - - - Banks; Other Depository Institutions; Micro Finance Institutions; Mortgages
    • G24 - Financial Economics - - Financial Institutions and Services - - - Investment Banking; Venture Capital; Brokerage

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