1994•Real Estate EconomicsRequires access

Reverse Mortgages and Interest Rate Risk

Thomas P. Boehm, Michael C. Ehrhardt

Abstract

We develop and apply a valuation model that quantifies the interest rate risk inherent in fixed‐rate reverse mortgages. Consistent with intuition, our results show that the interest rate risk of a reverse mortgage is greater than that of either a typical coupon bond or a regular mortgage. Somewhat surprisingly, we find that this difference in interest rate risk is extremely large. In fact, the interest rate risk of a reverse mortgage often is several orders of magnitude greater than the interest rate risk of other fixed‐income securities.

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Key concepts: Interest rate, Interest rate risk, Economics, Floating interest rate, Fixed income, Econometrics, Risk-free interest rate, Mortgage underwriting