Mortgage Terminations, Heterogeneity and the Exercise of Mortgage Options
Option theory predicts that mortgage prepayment or default will be exercised by homeowners if the call or put option is sufficiently "in the money." This analysis: tests the extent to which the option approach explains default and prepayment behavior; evaluates the importance of modeling both options simultaneously; and models the unobserved heterogeneity of mortgage holders. The paper presents a unified model of the competing risks of mortgage termination, considering the hazards as dependent competing risks, estimated jointly. It also accounts for the unobserved heterogeneity among borrowers, and estimates the unobserved heterogeneity simultaneously with the prepayment and default functions.
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