Abstract
The subprime crisis in 2007 has caused financial institutions under unexpected loss resulted from underpriced the risk of mortgage. This crisis begins with high default rate of mortgage and house price slumped and expands by its related derivatives. So far, the losses of financial institutions are so huge that has caused system risk in credit market. In literatures, the structural approach in analysis the default behavior of mortgagors base on the difference between house price and unpaid balance that is also called two factors model. It describes default event as optimal behavior of mortgagors, but ignores the cost of default. In this work, we wish to incorporate the income risk of mortgagors into the model and view default event as mortgagors cannot honor their contracts, as a result we call it three factors model. According to the simulation, we find out that if house price volatility and risk allowance in contracts raises, the loss of default in three factors model would increase more than two factors model. Besides, about the income risk, we use the conditional value at risk to measure the default risk of mortgage and also find out if banks misprice the income growth rate of mortgagors, it would cause most serious default loss than other income risks.