Working Paper: NBER ID: w0738
Authors: Patric H. Hendershott; Kevin E. Villani
Abstract: During the Last three years mortgage rates have risen relative to yields on comparable maturity bonds. The questions addressed in the present paper are what is the extent of this increase and to what is it attributable? We find the increase between early 198 and early 1981 in coupon rates on GNMA mortgage pools relative to ''the" rate on a comparable portfolio of Treasury bonds to be about 100 basis points. We attribute the increase to a rise in the terminations premia built into mortgage coupon rates. The premia is the price borrowers are charged for the option to repay the mortgage when it is to their benefit (to refinance if interest rates decline). This price has risen in response to an increase in interest rate uncertainty. Our empirical results suggest that the increase is due to both greater uncertainty regarding the inflation premium in interest rates and the lesser weight the monetary authorities give to interest rate stability in their deliberations.
Keywords: Mortgage Rates; Terminations Premium; Interest Rate Uncertainty; Bond Markets
JEL Codes: G21; E43
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| increased mortgage coupon rates (G21) | rising terminations premia (G19) |
| heightened interest rate uncertainty (E43) | rising terminations premia (G19) |
| inflation uncertainty (E31) | rise in terminations premium (J65) |
| increased volatility in interest rates (E43) | expected reductions in effective yields for lenders (G21) |
| expected reductions in effective yields for lenders (G21) | rising terminations premia (G19) |
| higher standard deviation of expected inflation (E31) | significant increase in terminations premium (J65) |