In what it termed a ‘conservative projection,’ Fitch Ratings says 65% to 75% of securitized subprime loan modifications will fall back into default a year after modification.
The findings were included in Fitch's semiannual report on loss mitigation actions taken by servicers on securitized loans. The report, which included information from Fitch-rated servicers and data from First American Loan Performance, found that, during the first half of 2009, about 30% of modified subprime loans fell back into default by the six-month mark and about 60% redefaulted 12 months after modification.
These numbers actually understate the number of loans that fail after modification, Fitch says, because the figures do not include modified loans that were subsequently re-modified or liquidated. While the rating agency adds that the number of prime-loan modifications initiated this time last year is insufficient for Fitch to determine a 12-month trend, at six months, the statistics on prime redefaults are similar to those for subprime and Alt-A loans.
By analyzing a pool of loan modifications from the third quarter of 2008 – a pool that included prime loans but mostly comprised Alt-A and subprime loans – Fitch found that 34% of the loans are current today. Five percent are in 30-day buckets, 17% received a second modification and 8% have been liquidated. These statistics support Fitch's contention that its 65%-75% redefault projection is conservative.
In explaining why modifications may not necessarily be the best route for servicers to take with certain borrowers, Fitch warns its rated servicers against re-modifying loans for the sake of improving performance data.
‘The use of multiple mods for the sole purpose of managing default statistics and advances could not only put at risk a servicer's, as well as the transaction's, ratings, but also could greatly increase the ultimate loss to the investor,’ the report's authors state.
Modifications as a percentage of loan resolutions (i.e., actions that result in home retention as well as those that result in foreclosure) grew in the first six months of the year when compared to the six months ending Dec. 31, 2008. Loan modifications accounted for 58.1% of residential mortgage-backed securities loan resolutions in the first half of 2009, whereas they made up only 39.6% of loan resolutions in the last half of 2008. In total, 88.5% of the loans worked by Fitch-rated servicers' loss mitigation departments between January and June 2009 resulted in workouts. For the prior six-month period, 71.4% of cases resulted in workouts.
In addition to examining all cases worked by loss mitigation departments, Fitch also looked at the types of loss mitigation strategies utilized (e.g., payment plans, modifications, short sales and other, non-foreclosure strategies). In this category, short sales represented a smaller percentage of loss mitigation efforts in the first half of 2009 as compared to the last six months of 2008, falling from 11.5% to 8%.
According to Fitch, the drop-off was likely due to servicers' increased emphasis on loan modifications. While servicers continue to focus most of their attention on modifications – namely those that qualify for the government's Home Affordable Modification Program (HAMP) incentives – improving housing-market conditions and soon-to-be formalized foreclosure-alternative incentives (i.e., incentives for short sales and deeds-in-lieu of foreclosure) may swing the pendulum back toward short sales.
‘[W]ith the recent increase in property sales and government-issued short-sale guidelines, servicers have indicated more borrowers are now requesting or accepting the short-sale alternative,’ Fitch says, adding that short sales could see a sharp increase in the remainder of the year. The agency also commented on short sales' financial benefits to investors.
‘The use of short sales has the potential to materially reduce the loss to investors by eliminating the need for legal procedures; the cost to secure, maintain and market properties; and the need to cover any additional deterioration in property value,’ the authors write.
Though the cumulative number of modifications continued to increase during the first half of the year, modifications tapered off after HAMP was announced in the spring. As has been previously noted by several other sources – including HOPE NOW and the Federal Housing Finance Agency, as well as the Office of the Comptroller of the Currency and the Office of Thrift Supervision – loans that are enrolled into HAMP are not classified as ‘modified’ until after they complete the program's three-month trial period.
Because the earliest batch of HAMP modifications could not complete their trial periods until early July, Fitch's report reflects no HAMP activity. Due to servicers' continuation of non-HAMP mods, however, the cumulative number of modifications did continue to increase during the first six months, Fitch adds.
Even with the reporting limitations, Fitch makes mention of HAMP's slow progress in converting trial modifications into permanent ones. The firm's report cites a recent analysis from the Congressional Oversight Panel that found that 1,711 of the more than 360,000 loans placed on HAMP trial mods at the beginning of September had actually been converted to permanent status. Increased modification activity should go hand in hand with improved conversion rates, Fitch adds.
‘If the HAMP requirements are ultimately fulfilled by the borrower and a high percentage of these convert to final mods, the pace at which borrowers are receiving assistance should return to prior levels or increase,’ the report says.
John Clapp is the editor of Servicing Management magazine. He can be reached at firstname.lastname@example.org or (203) 262-4670, ext. 234.