Profit-oriented purchasers or insurers of mortgages, such as Fannie Mae, Freddie Mac, and PMI companies, guard against adverse selection by setting stricter underwriting standards than they would if they had full information about the risk of the mortgages they buy or insure and by closely monitoring the adherence of mortgage originators to these standards.
This factor, combined with the limited profitability of funding confomiing mortgages, leads us to expect that mortgages held by depository institutions in portfolio without PMI generally will be underwritten with greater flexibility than mortgages that are either insured by a PMI company or sold into the secondary market.
For our purposes, the risk holders are the FHA, the VA, PMI companies, Fannie Mae and Freddie Mac, other purchasers of mortgage securities, and depository institutions.
Because PMI companies are bearing the preponderance of risk associated with such mortgages, assigning them all the risk is a simplification that should not be seriously distorting.
Information about who originates, holds, purchases, or insures a mortgage in a given year is available from HMDA in combination with PMI data.
Because of the limited set of information available in HMDA and PMI data, we do not attempt to adjust our measure of credit risk - the actual number of mortgages either insured or held without insurance by the institution - for the actual expected credit risk of particular mortgages.
To conduct the analysis, we matched the individual mortgage records reported by mortgage originators under HMDA with individual records on loans insured by PMI companies reported in a manner that parallels that of HMDA reporting.
Measuring the overall distribution of mortgage lending by type of risk holder without controlling for the size of the mortgage or extracting the mortgages insured by PMI indicates that depository institutions held or purchased 34 percent of the mortgages originated in 1994 (table 2, last column, sum of "Depository institution," "Bank or savings association not affiliated with a mortgage originator," and "Affiliate, from a depository institution or its subsidiary" for mortgages with and without PMI).
Of the mortgages that were retained or purchased by depository institutions or their subsidiaries, roughly 17 percent were backed by PMI (derived from table 2).
Treating risk holders separately, depository institutions bore about 28 percent of the credit risk of home lending, whereas Fannie Mae and Freddie Mac together, the FHA, and the PMI companies each had 17 percent.
Generally, the type of mortgage insured by the FHA or by the PMI companies is riskier than the type of mortgage for which Fannie Mae or Freddie Mac bear the credit risk.
This distinction is highlighted by the proportions of mortgages extended to lower-income and black or Hispanic borrowers without PMI and held by the various risk holders.