Mortgage borrowers frequently make bad decisions, in part
reflecting the complexities of mortgages and the mortgage
process. But a major part of the problem is that the
decision process used by many if not most borrowers is
deficient, and the marketing approaches used by loan
originators reinforce the deficiency.
Impulsive Versus Thoughtful Decision Systems
In his insightful
new book, Thinking Fast and
Slow, Daniel Kahneman posits
that people behave as if they have two decision systems: a
system 1 “operates automatically and quickly, with little or
no effort…”, while a system 2 “allocates attention to the
effortful mental activities that demand it, including
complex computations.” System 1 is quick and effortless but
often wrong, whereas system 2 requires effort but is wrong
less often.
Politicians
selling themselves usually appeal to the system 1 of voters,
which is a weakness of democracy. Advertisers selling
products or services usually appeal to the system 1 of
consumers, which is a weakness of capitalism.
The immediate consequences of a course of action are usually accessible to system 1 while appreciation of long-run consequences is more likely to require the engagement of system 2. Since involvement of system 2 is work and is resisted, long-run consequences are often given insufficient weight in the decision process.
Impulsive Versus Thoughtful Decisions by Mortgage
Borrowers
Home mortgages
are a great example. The system 1 focus is the cash required
to close the transaction and the initial monthly payment.
Assessing the impact of a transaction on the borrower’s
wealth and payments in future years is complicated and
requires the engagement of the borrower’s system 2, which is
resisted.
Borrowers who participate in the mortgage decision process solely through their system 1 are very likely to make bad decisions. In the past, I have written about borrowers who did really dumb things because they were “cash-dazzled” or “payment myopic”. These are system 1 pathologies.
Mortgage Marketing Practices Encourage Impulsive
Decisions
Customary
methods of marketing mortgages reinforce the tendency of
borrowers to rely on their system 1. The key words used by
loan originators, such as “savings”, “lowest rate”, “quick,”
“no-cost” and “guaranteed,” appeal to system 1. From the
standpoint of loan originators, engaging the system 2 of
borrowers to consider long-run consequences is risky because
it may make the borrower uncertain, which can delay and
possibly derail the deal.
Educating Borrowers To Make Thoughtful Decisions Is a
Challenge
After reading
Kahneman’s book, I realized that the articles, calculators
and spreadsheets on my web site are all designed to engage
the system 2 of mortgage borrowers. In recent years, I have
also begun to realize that the impact of such aids was
limited because they were not part of the loan process, and
therefore not immediately available to borrowers when they
were making decisions.
For example, a
major decision a borrower has to make is the type of
mortgage: whether fixed-rate or adjustable, if fixed-rate,
the term, and if adjustable, the initial rate period. I have
several calculators that show the long-run as well as the
short-run consequences of different choices, but the
borrower has to enter the mortgage prices, which are
critical to the decision. Borrowers in shopping mode must
take time out to deploy a calculator, entering their best
guess as to prices, and then return to their shopping; this
is clumsy.
What was
needed, I realized, was a way to integrate the calculator
into the loan process so that it emerged at the exact point
where the borrower had to make a decision, with the correct
prices already entered. The long-run consequences of
alternative decisions, using live prices, would then become
immediately apparent, forcing the borrower’s system 2 to
respond.
My New Network Is Designed to Nudge Borrowers Toward
Thoughtful Decisions
Lenders have
no interest in developing or licensing systems that
encourage thoughtful decisions by borrowers because such
systems counter to a sales culture. The only way to
accomplish thisobjective, therefore, was to build my own
loan network. It went live January 19, 2012, with 5 lenders
participating, more in the wings.
The lenders participate, even though they would not build a similar system of their own, because they receive quality leads that carry a high probability of becoming loans. Leads go only to the one lender selected by the borrower, borrowers who can’t qualify branch off to find out how to improve their credentials, and the borrowers who go through the process are confident they have not made a mistake.
