Early Evidence on Balloon Performance

Balloon loans have become increasingly popular in recent years. For this reason, it is important to understand their features, assess their potential risks, and monitor their early performance. This paper focuses on these topics. The first section discusses balloon characteristics and mortgage choice. The second section discusses expected balloon performance. The third section provides and econometric model for monitoring current performance. The fourth and fifth sections describe the data and results, respectively. The final section summarizes the paper and offers some concluding remarks. The fundamental conclusions are that (1) early balloon performance is slightly worse than expected (i.e., balloons are not matching fixed-rate performance prior to balloon reset dates); (2) balloon performance is, however, within the range expected over the full term of the loans (i.e., performance worse than fixed-rate performance, but better than ARM performance); and (3) balloons have important characteristics that help mitigate systematic risk