RT Journal Article
SR Electronic
T1 Term Default, Balloon Risk, and Credit Risk in Commercial Mortgages
JF The Journal of Fixed Income
FD Institutional Investor Journals
SP 42
OP 52
DO 10.3905/jfi.2003.319359
VO 13
IS 3
A1 Charles C. Tu
A1 mark J. Eppli
YR 2003
UL https://pm-research.com/content/13/3/42.abstract
AB Term default and balloon risk play an interactive role in the pricing of credit risk in commercial mortgages. Most commercial mortgage pricing studies assume a borrower's default decision is based solely on the property value; the mortgage valuation model here also incorporates a property income trigger. The model considers both the risk of default during the term of the loan and the risk of loss at maturity (balloon risk). Monte Carlo simulation analyses reveal that pricing models based solely on property value overestimate the probability of term default and the resulting credit risk premium. Adding a property income default trigger without considering balloon risk, however, underestimates the overall credit risk premium. In essence, a double-trigger default model that incorporates balloon risk is critical for accurate assessment of the credit risk in commercial mortgages.