[Journal:] Journal of Risk and Financial Management [ISSN:] 1911-8074 [Volume:] 13 [Year:] 2020 [Issue:] 2 [Pages:] 1-14
Our paper forecasts the expected recovery rates of defaulted Italian mortgage loans backed by either residential or commercial real estate. We apply an exponential Ornstein–Uhlenbeck process to model the price dynamics at the provincial and regional level, and two haircut models to estimate the liquidation value. Compared to our findings, rating agencies such as Moody's, which use geometric Brownian motion to model the price dynamics, paint a rosier picture with higher recovery rates. As a consequence, non-performing mortgage loans held by Italian banks might be overvalued.