Reverse Mortgage Risks. Time Evolution of VaR in Lump-Sum Solutions

Iván de la Fuente, Eliseo Navarro and Gregorio Serna
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Iván de la Fuente: Facultad de Ciencias Económicas y Empresariales, Universidad de Alcalá. Plaza de la Victoria, 2, Alcalá de Henares, 28802 Madrid, Spain
Eliseo Navarro: Facultad de Ciencias Económicas y Empresariales, Universidad de Alcalá. Plaza de la Victoria, 2, Alcalá de Henares, 28802 Madrid, Spain
Gregorio Serna: Facultad de Ciencias Económicas y Empresariales, Universidad de Alcalá. Plaza de la Victoria, 2, Alcalá de Henares, 28802 Madrid, Spain

Mathematics, 2020, vol. 8, issue 11, 1-17

Abstract: In this study, we analyzed the risk faced by the reverse mortgage provider in the case of the lump-sum solution, which is increasingly becoming one of the most popular types of reverse mortgages. The risk faced by the mortgage provider was estimated by means of a value at risk (VaR) procedure that involves a Monte Carlo simulation method and an ARMA-EGARCH assumption for modeling house price returns in the United Kingdom from 1952 to 2019. The results showed that the reverse mortgage provider faced higher risk and consequently needed to allocate more funds to meet its regulatory capital requirements in the case of relatively young borrowers, especially when they reached their life expectancy and had high roll-up rates. The risk was even higher in the case of the female population. Furthermore, care must be taken when the rental yield rate is higher than the risk-free rate, as is currently the case, as the value of the no-negative-equity guarantee (NNEG) is relatively high and results in higher value at risk (VaR) and expected shortfall (ES) values. These results have important implications in terms of policy decision making when determining the countercyclical buffer for reverse mortgages in Basel III, as well as from a managerial perspective when determining the economic capital needed to support the risk taken by the lender.

Keywords: reverse mortgages; option pricing; no-negative-equity guarantee; mortality modeling; house price modeling; regulatory capital requirements (search for similar items in EconPapers)
JEL-codes: C (search for similar items in EconPapers)
Date: 2020
References: View references in EconPapers View complete reference list from CitEc
Citations: View citations in EconPapers (3)

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Persistent link: https://EconPapers.repec.org/RePEc:gam:jmathe:v:8:y:2020:i:11:p:2043-:d:446081

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