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Systematic mistakes in the mortgage market and lack of financial sophistication

Sumit Agarwal, Itzhak Ben-David and Vincent Yao

Journal of Financial Economics, 2017, vol. 123, issue 1, 42-58

Abstract: Institutions often offer a menu of contracts to consumers in an attempt to create a separating equilibrium that reveals borrower types and provides better pricing. We test the effectiveness of a specific set of contracts in the mortgage market: mortgage points. Points allow borrowers to exchange an upfront amount for a decrease in the mortgage rate. We document that, on average, points takers lose about $700. Also, points takers are less financially savvy (less educated, older), and they make mistakes on other dimensions (e.g., inefficiently refinancing their mortgages). Overall, our results show that borrowers overestimate how long they will stay with the mortgage.

Keywords: Discount points; Mortgage decision making; Refinancing; Leverage; Financial literacy; Household finance; Inattentiveness (search for similar items in EconPapers)
JEL-codes: D03 D12 D14 D18 G01 G21 (search for similar items in EconPapers)
Date: 2017
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Working Paper: Systematic Mistakes in the Mortgage Market and Lack of FInancial Sophistication (2016) Downloads
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Handle: RePEc:eee:jfinec:v:123:y:2017:i:1:p:42-58