Tuesday, June 11, 2013

Mortgage refinancing is not that hard

We continuously take economic decisions. Most of the time, they are trivial. Sometimes they are important, and any sensible person thinks hard before settling on an option. Purchasing a home is complex, for example. Can one afford it? Is it the right price? How will it evolve? How is the financing? Comparatively, refinancing a mortgage is relatively easy: what is the interest saving? What are the fix costs? How long does one expect to hold this mortgage?

Yet, it appears a substantial fraction of those refinancing their home mortgage make lightheaded mistakes, according to Sumit Agarwal, Richard J. Rosen and Vincent Yao. Using a dataset that covers homeowners who only refinance to reduce mortgage payments, they find that 52% pick the wrong interest rate (off by at least 50 basis points) and 17% wait at least six months too long, likely because they do not monitor rates. That could be excused by inattention, but when you consider the amounts involved, they would need to have some very lucrative alternative uses of their time. That is quite disappointing for those who model optimizing agents.

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