Deck 6: Real Estate Market Analysis

Question 1

For the same property as above, suppose the underwriting criteria is a maximum loan/value ratio LTV) of 75%, and we estimate property value by direct capitalization using a rate of 11% on the stated NOI. By this criterion what is the maximum loan amount?

A) $2,789,406
B) $3,409,091
C) $3,844,614
D) $4,000,000
E) $4,139,619

Answer 1

B

Question 2

A graduated payment mortgage GPM) would be most appropriate in all of the following circumstances except:

A) A young homebuyer whose income is expected to grow in real terms.
B) An inflationary environment where rents are likely to grow in nominal terms.
C) A declining neighborhood where property values are likely to decline.
D) A distressed property purchased by an investor who plans turn-around improvements.

Answer 2

C

Question 3

Consider a 7% loan amortizing at a 30-year rate with monthly payments. What is the maximum amount that can be loaned on a property whose net operating income NOI) is $1,000,000 per year, if the underwriting criteria specify a debt service coverage ratio DCR) no less than 120%?

A) $9,652,066.
B) $10,438,026.
C) $12,525,631.
D) $15,030,757.

Answer 3

B

Question 4

What is the main factor which can cause the Weighted Average Maturity of the A tranch of a CMBS issue to be lower shorter) than lower tranches?

A) Superior credit quality
B) Prepayment of loans
C) More "weight" attributed to higher quality financial issues
D) Less demand from non-institutional investors

Question 5

In a mortgage, an "exculpatory clause" typically is used to:

A) Exclude a portion of the property from the collateral securing the loan.
B) Prevent the lender from having recourse to the borrower, other than taking the collateral property.
C) Prevent the borrower from getting out of loan obligations by declaring bankruptcy.
D) Exclude the lender from culpability in the event the property owner is sued for damages by a user of the property.

Question 6

A building that is worth $5 Million has a first mortgage on it with $4 Million owed, a second mortgage with $2 Million owed, and a third mortgage with $1 Million owed. Which describes the distribution of the $5 Million proceeds from the foreclosure sale?

A) $5 Million to the first mortgage lender, and none to anyone else.
B) $4 Million to the first mortgage lender, $1 Million to the second mortgage lender, and none to the third.
C) $2,857,143 to the First mortgage lender, $1,428,571 to the second mortgage lender, and $714,286 to the third mortgage lender.
D) $1,666,667 to each lender.

Question 7

In comparing an adjustable rate mortgage ARM) with a fixed rate mortgage FRM):

A) Both the borrower and lender bear more interest rate risk with the ARM than with the FRM.
B) Both the borrower and the lender bear less interest rate risk with the ARM than with the FRM.
C) The ARM borrower bears more interest rate risk, but the ARM lender bears less interest rate risk, than with the FRM.
D) The ARM borrower bears less interest rate risk, but the ARM lender bears more interest rate risk, than with the FRM.

Question 8

In the ARM above, what will be the contract interest rate after the end of the first adjustment interval if the index remains at 5.50%?

A) 5.50%
B) 7.00%
C) 7.50%
D) 9.00%

Question 9

In a one-period world, if the conditional yield degradation is 20%, the unconditional default probability is 10%, and the lender wants an expected return of 5%, what contract yield must the loan carry?

Question 10

If a mortgage has a "Due-on-Sale" clause, the borrower would not be able to:

A) Take out a home equity loan.
B) Take out a car loan.
C) Pay the loan off prior to selling the house.
D) Allow a subsequent buyer of the property to assume take over) the mortgage.

Question 11

Consider an 8.5% loan amortizing at a 25-year rate with monthly payments. What is the maximum amount that can be loaned on a property whose net operating income NOI) is $500,000 per year, if the underwriting criteria specify a debt service coverage ratio DCR) no less than 125%?

A) $2,789,406
B) $3,409,091
C) $3,844,614
D) $4,000,000
E) $4,139,619.

Question 12

For the same property as above, suppose the underwriting criteria is a maximum loan/value ratio LTV) of 80%, and we estimate property value by direct capitalization using a rate of 8% on the stated NOI. By this criterion what is the maximum loan amount?

A) $8,000,000
B) $9,000,000
C) $10,000,000
D) $11,000,000

Question 13

In the mortgage in the previous question, what is the "effective interest rate" or yield over the borrower's expected holding period if the borrower expects to hold the loan for 12 years?

A) 8.00%
B) 8.25%
C) 8.31%
D) 8.56%

Question 14

An acceleration clause:

A) Allows the borrower to pay the loan off early.
B) Allows the borrower to reduce the principal balance at a faster rate.
C) Allows the borrower to make subsequent draw-downs of the agreed upon principal.
D) Allows the lender to make the full outstanding balance due immediately.

Question 15

How much is the previous mortgage worth in the secondary market if the prevailing YTM in that market is 7.75%? Assume the loan is held to maturity.)

A) $78,000.
B) $80,000.
C) $81,510.
D) $107,064.

Question 16

An adjustable rate mortgage is offered with an initial interest rate of 7.00%. The index is currently yielding 5.50%, and the margin is 200 basis points. What is the size of the "teaser"?

A) There is no teaser.
B) 50 basis points.
C) 150 basis points.
D) 350 basis points.

Question 17

The two legal documents which constitute a mortgage loan include:

A) The Mortgage Deed and the Deed of Trust.
B) The Mortgage Deed and the Certificate of Title.
C) The Promissory Note and the Certificate of Title.
D) The Promissory Note and the Mortgage Deed.

Question 18

Suppose the market yield on mortgages is 9.0% in bond equivalent terms BEY, or "coupon equivalent", CEY). What is the effective yield EAY or EAR)?

A) 0.75%
B) 4.5%
C) 9.0%
D) 9.20%
E) 9.38%

Question 19

Consider a 20-year monthly-payment), 8%, $80,000 mortgage with 2 points prepaid interest up front. What is the yield to maturity?

A) 8.00%
B) 8.12%
C) 8.20%
D) 8.27%

Question 20

For the situation described in the problem above i.e., where the BEY is 9.0%), what is the "mortgage equivalent" yield, or the "nominal" annual rate ENAR) with monthly payments on the loan?

A) 0.75%
B) 8.84%
C) 9.00%
D) 9.38%
E) 10.57%

Question 21

Which of the following is true when the yield curve is steeply rising:

A) ARM interest rates will be about the same as FRM interest rates.
B) Borrowers can "lock in" the low short-term interest rates by taking out an ARM.
C) If you borrow using an ARM, your interest rates are more likely to rise than fall in the future.
D) FRM interest rates will be lower than ARM rates, due to the Federal Reserve Board's efforts to stimulate the economy by reducing interest rates.

Question 22

A lender wants to achieve a 8.5% yield MEY) on a 30-year amortization, monthly-payment loan with an 8-year maturity with balloon. How many disbursement discount points must the lender charge under the following circumstances:
a) Contract interest rate is 8%; b) Contract interest rate is 7.5%.

Question 23

Consider the following 5-year ARM contract interest rate can change once every 60 months) with 15-year maturity, monthly payments. The ARM has initial interest rate 6.5% with 2 points, caps are 2% per jump, 5% lifetime, margin is 300 basis points, index is Treasury Bonds that are currently yielding 6.0%. The loan amount is $100,000. Under the "straight line" assumption about future interest rates i.e., assuming the market rate on the index remains constant), what is the reported yield to maturity "APR", rounded to nearest 1/8 point)?

Question 24

In a certain CMBS issue $500 million of senior securities and $100 million of mezzanine securities are issued. The coupon on the senior securities is 7%, and that on the mezzanine is 9%. The average contractual interest rate in the underlying mortgage pool is 10%. Assuming annual interest payments and no par value retired or defaulted, how much residual interest will be available for an IO tranche from these two par-valued tranches at the end of the first year?

Question 25

Why and how can it be that the more junior CMBS tranches command stated yields that are higher than the expected returns to the underlying property equity that backs the credit of these securities? Why are junior CMBS tranches more risky than whole first mortgages with the same LTV ratios?

Question 26

Consider the following fully-amortizing 4-year ARM contract interest rate can change once every 48 months) with 12-year maturity, monthly payments. The ARM has initial interest rate 4% with 1 point, caps are 2% per jump, 6% lifetime, margin is 300 basis points, index is LIBOR currently at 4.5%. Under the "straight line" assumption about future interest rates i.e., assuming the market rate on the index remains constant), what is the yield to maturity? Show your work if you want to possibly get partial credit.)

Question 27

What is the difference between the contract or stated) yield and the realistic expected return ex ante) on a mortgage? Why is this difference important?
Answ: The contract yield is the stated yield to maturity for a loan based on the loan's contractual provisions. In contrast, the expected return on the loan is the probabilistic expectation of what the realized return on the loan will be for the investor in holder of) the loan. The latter recognizes the possibility and expected impact of default and resulting credit losses in the loan, while the contractual yield does not recognize this effect. The difference is important because the possibility of default is a part of reality, and the investor must consider this when weighing the trade-off between risk and return in the loan as an investment, and in comparing a given loan or type of loan as an investment) with the other investment opportunities available in the capital market.

Question 28

Five years ago you took out a $120,000, 30-year mortgage at 9% interest, with no prepayment penalty. Suppose today you can get 30-year mortgages at 7 percent with 2 points, and you plan to be in your house another five years. What would be the before-tax NPV of refinancing ignoring transaction costs and option value)?
NPV = +$7,021. @ Mkt OCC = 7.49%, Old loan PV = 122077, less Old loan OLB = 115056

Question 29

Suppose the 9%, $120,000, 30-year, monthly-payment CPM loan has 2 "points" of prepaid interest up front, plus a 5 point prepayment penalty percent of OLB). What would be the yield in nominal per annum terms) over an expected holding period of 7 years i.e., expected prepayment 7 years after loan is originated)?
9.88%

Question 30

What is the present value at a 10% discount rate expected return) of a non-recourse mortgage that has a single payment remaining, due one year from now, in the amount of $1,000,000. Assume that the borrower will threaten a "strategic default" if it is in his interests to do so, and that the borrower has "full bargaining power" can make the lender pay all the foreclosure 3rd party costs). The foreclosure costs are $200,000, and the possible future value scenarios one year from now for the property securing the mortgage with probabilities) are:
i) $1,500,000 80% probability)
ii) $1,150,000 10% probability)
iii) $900,000 10% probability)