Risky Borrowers or Risky Mortgages Disaggregating Effects Using Propensity Score Models

Abstract

This paper examines the relative risk of subprime mortgages and community reinvestment loans originated through the Community Advantage Program (CAP). A sample of comparable borrowers with similar risk characteristics is constructed using the propensity score matching method but holding two different loan products. The findings reveal that the sample of community reinvestment loans has a lower default risk than subprime loans, very likely because they are not originated by brokers and lack risky features such as adjustable rates and prepayment penalties. Results suggest that similar borrowers holding more sustainable products exhibit significantly lower default risks.