COWLES FOUNDATION FOR RESEARCH IN
ECONOMICS Box 208281
COWLES FOUNDATION DISCUSSION PAPER NO. 1794 Continuous Workout Mortgages Robert J. Shiller, Rafal M. Wojakowski, M. Shahid Ebrahim and Mark B. Shackleton April 2011 This paper models Continuous Workout Mortgages (CWMs) in an economic
environment with refinancings and prepayments by employing a market-observable variable
such as the house price index of the pertaining locality. Our main results include: (a)
explicit modelling of repayment and interest-only CWMs; (b) closed form formulae for
mortgage payment and mortgage balance of a repayment CWM; (c) a closed form formula for
the actuarially fair mortgage rate of an interest-only CWM. For repayment CWMs we extend
our analysis to include two negotiable parameters: adjustable "workout
proportion" and adjustable "workout threshold." These results are of
importance as they not only help understanding the mechanics of CWMs and estimating key
contract parameters. These results are of importance as they not only help in the
understanding of the mechanics of CWMs and estimating key contract parameters, but they
also provide guidance on how to enhance the resilience of the financial architecture and
mitigate systemic risk. |
