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FNMA Mortgage Purchase Commitments As Put Options: An Empirical Examination
Author(s) -
Berry Thomas D.,
Gehr Adam K.
Publication year - 1985
Publication title -
real estate economics
Language(s) - English
Resource type - Journals
SCImago Journal Rank - 1.064
H-Index - 61
eISSN - 1540-6229
pISSN - 1080-8620
DOI - 10.1111/1540-6229.00343
Subject(s) - common value auction , economics , value (mathematics) , dutch auction , microeconomics , english auction , vickrey auction , financial economics , auction theory , actuarial science , monetary economics , revenue equivalence , computer science , machine learning
The Federal National Mortgage Association (FNMA) auctions commitments to purchase mortgages. An examination of the terms of the commitment contract shows that these commitments are actually put options on mortgages. The contract is unusual, however, in that the price of the commitment is a fixed percentage of the value of the mortgages. In the auction, the dealers effectively bid the exercise price at which they would be willing to pay the fixed commitment price. In this paper, we study the economics of the FNMA auction. We use a two‐state approximation to the American put pricing model for interest‐dependent securities to examine the behavior of the auction results. We find that the model performs reasonably well for several years — giving results which are, on the average, correct — and then, quite abruptly, the performance of the model deteriorates. Some possible reasons for this result are then examined.