Savings and Loan Usage of the Authority to Invest in Corporate Debt

36 Pages Posted: 10 Nov 2002 Last revised: 27 Jun 2010

See all articles by Patric H. Hendershott

Patric H. Hendershott

University of Aberdeen - Centre for Property Research; National Bureau of Economic Research (NBER)

Kevin E. Villani

Imperial Credit Industries, Inc.

Date Written: July 1981

Abstract

This paper examines the portfolio choice of savings and loan associations (SLAS) between mortgages and bonds, first in a certainty world and then under uncertainty. Differences in servicing and transactions costs, in default losses, in tax treatment and in the timing of payments are accounted for in a certain world. SLAs are seen as investing in bonds only if the demand for mortgage funds is sufficiently weak that more profitable SLAs compete away some of the value of their tax preference by bidding down mortgage rates; in this case less profitable SLAs would find corporate debt attractive. In an uncertain world, mortgages will command a premium over bonds to compensate for the prepayment option extended mortgage borrowers. The appropriate value of this premium depends on uncertainty regarding future interest rates and aversion to this uncertainty. SLAs that view future interest rates as more uncertain than the market does generally, or who are more averse to this uncertainty, will require an options premium greater than that determined in the market. Thus they will find corporate debt to be attractive relative to bonds, even when the demand for mortgage funds is strong and their mortgage tax preference is not competed away.

Suggested Citation

Hendershott, Patric H. and Villani, Kevin E., Savings and Loan Usage of the Authority to Invest in Corporate Debt (July 1981). NBER Working Paper No. w0725, Available at SSRN: https://ssrn.com/abstract=349118

Patric H. Hendershott (Contact Author)

University of Aberdeen - Centre for Property Research ( email )

Aberdeen AB24 2UF
Scotland

National Bureau of Economic Research (NBER) ( email )

1050 Massachusetts Avenue
Cambridge, MA 02138
United States

Kevin E. Villani

Imperial Credit Industries, Inc.

23550 Hawthorne Blvd., Ste. 110
Torrance, CA 90505

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