Fixed rate mortgages: the cost of interest rate risk aversion

Kwangwon Ahn, Joetta Forsyth, Hanwool Jang, Dongshin Kim*

*Corresponding author for this work

Research output: Contribution to journalArticlepeer-review

1 Citation (Scopus)

Abstract

Mortgages play a significant role in the US economy. Americans predominantly use fixed-rate mortgages (FRMs) to avoid interest rate risk, but the related risk aversion cost has not been analyzed yet. This paper fills the gap by investigating the cost of choosing FRMs over adjustable-rate mortgages (ARMs). We find that ex post, FRM borrowers made 12% – 23% higher payments to avoid 0.66% – 1.62% potential ARM payment shocks. Consequently, we introduce and analyze a payment-saving strategy to absorb ARM payment shocks. Emerging data show that ARM borrowers are less financially constrained and less of a concern to policymakers.
Original languageEnglish
Article number102158
Number of pages8
JournalFinance Research Letters
Volume44
Early online date25 May 2021
DOIs
Publication statusPublished - Jan 2022

Keywords

  • mortgage
  • interest rate risk
  • risk aversion

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