Subprime cohorts and loan performance

Loan performance of subprime originations during the boom years of 2004-2006 is contrasted with that of subprime originations during the early period of 2000-2002. A counterfactual technique is developed to determine how originations during the early period would perform in a different environment, namely, the environment faced by originations of 2004, 2005, and 2006. In an environment where house prices are increasing rapidly, low credit score originations do not show high rates of default-as was witnessed for 2000-2002 cohorts. However, in an environment of stagnant or deteriorating home prices, low credit score originations show significantly higher rates of default than high credit score originations. With a greater proportion of low credit score originations, earlier cohorts of 2000-2002 were no less vulnerable to the environment faced by cohorts of 2004-2006. In essence, these results raise concerns about the viability of all cohorts of subprime originations because of their reliance on the appreciation of the underlying collateral rather than the creditworthiness of the borrower.