Mortgage Delinquencies Rising

By Dirk van Dijk

Two of the main banking regulators, the OCC and the OTS, jointly released data on mortgage performance in the second quarter today, and the news was not good. The report covers 34 million individual first mortgages totaling about $6 Trillion.

All types of delinquencies were up, but most distressing was the information about serious delinquencies, or mortgages that are more than 60 days past due. They reached 5.3% of all mortgages, up from 4.7% in the first quarter, an increase of 11.5%. Foreclosures-in-process reached 2.9% of all mortgages, up from 2.4% in the first quarter -- a 16.2% increase.

It didn’t matter which risk category of loan you looked at, delinquencies were going up everywhere. The percentage of prime mortgages that were delinquent rose 10.5% to 3.0%, and are up 13.0% from a year ago. Alt-A delinquencies rose 11.1% from the first quarter to hit 10.3%, and the percentage of seriously delinquent subprime mortgages grew by 12.9% to hit 17.8%.

While the delinquency rate is much higher for subprime than prime mortgages, there are far more prime mortgages than subprime or Alt-A mortgages. Thus, as is shown in the graph below (from Calculated RIsk) the actual number of problem prime loans is substantially larger than the number of problem subprime loans.

Prime loans also tend to be much larger than subprime loans, so when they go south they are a bigger problem for the banks that lent the money (or the holders of the MBS that hold the mortgages after they have been sliced and diced). Note that in the first quarter the number of seriously delinquent subprime loans actually fell, and the number of problem Alt-A loans was stable.

But problem primes have been on a relentless increase. The purple "other" bar is a mix of the three types of loans, but for which the original credit scores were unavailable, usually because they had been acquired from a mortgage servicing firm that went belly-up and the records were lost.

For the first time, the report looked at Option ARMs as a separate category (although they are included in Alt-A in the chart). They found that this was a particularly dangerous area. In the second quarter, 15.2 percent of Payment Option ARMs were seriously delinquent, compared with 5.3 percent of all mortgages, and 10 percent were in the process of foreclosure, more than triple the 2.9 percent rate for all mortgages. Only a small fraction of these have actually recast to make them fully amortizing. Recasting will result in far higher monthly payments, sometimes as much as doubling them. If large numbers of these loans are in trouble before the recast hits, they will be an absolute disaster afterwards.

Government guaranteed loans were also seeing very serious problems. The Federal Housing Administration (FHA) and the Department of Veterans Affairs (VA) also showed higher delinquencies than the overall servicing portfolio. Serious delinquencies increased to 7.5 percent of all government guaranteed mortgages, up from 6.8 percent in the previous quarter.

This is going to be a much bigger problem going forward. Essentially the FHA has stepped into the shoes of the subprime "zero down, buy it now" crowd. They are offering mortgages with only 3.5% down, which in declining markets is almost a guarantee that they will soon be underwater and at very high risk of people walking away from the houses. After all the trouble of the last few years, you would have thought that someone would have figured out that if people don’t have much skin in the game, the odds of default are very high.

This is another one of the massive government props to the housing market, along with the first-time buyers tax credit (which can be used alongside an FHA loan, so it is possible to actually buy a house and walk away from the closing with a check in your pocket. And you thought all the mortgage stupidity went away last year.) There is an extremely high likelihood that the FHA will need a massive bailout in the next few years.

I think this report makes clear that the whole mortgage complex is far from out of the woods. Everyone from the big banks like Bank of America (BAC) to the GSEs Fannie (FNM) and Freddie (FRE) to the private mortgage insurance firms like PMI Group (PMI) and MGIC (MTG) still face major problems, problems that are getting worse, not better.

[click to enlarge]

Comments

[mavericks:]

I bought a home in '06 with 20% down and a 5-year interest only loan (interest only is great because it still gives you the option of paying the loan fully amortized). Now, I'm not an Option-ARM even though I reset in the same time frame as many, but checking LIBOR and where it is now, my payments would actually go DOWN on my reset.

Are you sure there's not alot of Option-ARM loans that would also share in this positive predicament? Certainly, anyone who put no money down and just paid the minimum payments is going to be in trouble even with a positive reset, but do we know what % of Option-ARM's are in that situation?

Oct 01 08:48 AM

[Seth Chalnick:]

Mavericks, you ask good questions... let me try to answer.

First, in your scenario, yes you are better off if rates stay low compared to what will happen when they inevitably climb, but there still exists a major problem for many folks who are making less income than they did at time of purchase or who took on additional debt since then.

When the rate switches to adjustable... about 50% of these loans also switch from i/o to p&i... the other 50% keep the i/o option for five more years. The ones that go p&i now, reset the amortization to 25 yrs... the ones that go p&i in five years will switch at that time to 20yr amortization.

On a loan size of $800k if the rate is the same now as it was at time of purchase, this creates a payment increase (or payment shock as the case may be) of approximately $1,000/mo.

This may be easily absorbed by many households, but the marginal ones will look for other options. They will try to refi, and they will get rejected. Then they will attempt to short sale and only 15% will succeed. The rest will ultimately walk away, thereby creating a downward spiral in home values for the next marginal household.

The option arms are worse because they pay (or accumulate) anywhere from 8% to 11% on their balance just for the option to pay less than interest only. Most of the folks who have these loans have not even been paying the i/o... they have been paying less than i/o. When the negative amortization reaches 115% or 125% (varies by lender) of the original balance, the loan implodes by becoming due. A recipe for disaster.

Meantime, the prime pool is three times larger than subprime and, as this article points out, the average loan size is also larger. The subprime problem loans have not been absorbed into the market yet. They have merely been put on hold. The bankerment has (successfully?) used smoke and mirrors until now… since at least the prime consumers have been paying their monthly payments, but when they start defaulting (and they already have started)... the banks will start to falter. This will create another credit crunch and it will accelerate the problem.

The imminent prime crash is going to make the subprime crash look like a little footnote in history.

BTW, this Zacks article is a really good one that makes several excellent points and observations… but I couldn’t help but notice how weird it seems being posted so closely to the other article entitled “pending home sales pop”. Weird.

Oct 02 02:30 AM

[BUS REMIRP:]

I agree, I really liked the article, too! Mavericks, if everyone put 20% down that was on an option arm/interest only loan and required folks to "qualify" for the loan based on the fully amortized loan, as each lender with a lick of sense should have, the product would have never been a mortgage "bad word". One of the problems is that wholesale account executives were not held accountable in selling these "speciality products" to the "speciality clients" like you, perhaps, that they were designed for. Worse, the underwriting staff that was begging for and approving these types of loans have suffered no consequences and they won't. There were some/few awesome wholesale account executives out there, that sold products, only to consumers/brokers/bankers that should have ever been introduced them.
I have a question.............why is the HARP or MHA program or whatever it's called today, designed to provide "relief" to those only on Fannie and Freddie loans? Don't folks that have those loans already, need the least amount of "relief" most likely? Every person that actually would qualify for one of those loans already has a decent rate and a large percentage are on a fixed rate. It no wonder there have only been a few done, those who qualify for them don't need the dang thing. It annoys me, I see all these folks wanting to take advantage of the lower rates with 740 plus scores, because they bought a house 5 years ago on a 100% Alt A program, and these loans aren't serviced by FNMA and FHLMC, no one who needs a "HARP/MHA" loan qualifies. It drives me bonkers, and makes me sick for the consumers that could really use the help! It won't be long before the 8 people I've looked at this week in this exact situation have 740's that quickly become 470's, there is definitely more stuff to hit the fan.


On Oct 02 02:30 AM Seth Chalnick wrote:

> Mavericks, you ask good questions... let me try to answer.
>
> First, in your scenario, yes you are better off if rates stay low
> compared to what will happen when they inevitably climb, but there
> still exists a major problem for many folks who are making less income
> than they did at time of purchase or who took on additional debt
> since then.
>
> When the rate switches to adjustable... about 50% of these loans
> also switch from i/o to p&i... the other 50% keep the i/o option
> for five more years. The ones that go p&i now, reset the amortization
> to 25 yrs... the ones that go p&i in five years will switch at
> that time to 20yr amortization.
>
> On a loan size of $800k if the rate is the same now as it was at
> time of purchase, this creates a payment increase (or payment shock
> as the case may be) of approximately $1,000/mo.
>
> This may be easily absorbed by many households, but the marginal
> ones will look for other options. They will try to refi, and they
> will get rejected. Then they will attempt to short sale and only
> 15% will succeed. The rest will ultimately walk away, thereby creating
> a downward spiral in home values for the next marginal household.
>
>
> The option arms are worse because they pay (or accumulate) anywhere
> from 8% to 11% on their balance just for the option to pay less than
> interest only. Most of the folks who have these loans have not even
> been paying the i/o... they have been paying less than i/o. When
> the negative amortization reaches 115% or 125% (varies by lender)
> of the original balance, the loan implodes by becoming due. A recipe
> for disaster.
>
> Meantime, the prime pool is three times larger than subprime and,
> as this article points out, the average loan size is also larger.
> The subprime problem loans have not been absorbed into the market
> yet. They have merely been put on hold. The bankerment has (successfully?)
> used smoke and mirrors until now… since at least the prime consumers
> have been paying their monthly payments, but when they start defaulting
> (and they already have started)... the banks will start to falter.
> This will create another credit crunch and it will accelerate the
> problem.
>
> The imminent prime crash is going to make the subprime crash look
> like a little footnote in history.
>
> BTW, this Zacks article is a really good one that makes several excellent
> points and observations… but I couldn’t help but notice how weird
> it seems being posted so closely to the other article entitled “pending
> home sales pop”. Weird.

Oct 24 08:19 PM