The Foreclosure Crisis: Not What It Appears to Be

Regardless of industry trends showing a decline in foreclosure starts, each month thousands of Americans are still facing a scenario that could mean the loss of their home. The foreclosure crisis is not fully behind us yet.

While an improving economy combined with government intervention and lender workouts has significantly reduced the number of homeowners in mortgage default since the height of the recession in 2008, the problem persists. Thousands of Notices of Default are still being issued each month in spite of the current optimism of a complete housing recovery touted in the press.

Two factors contribute to the discrepancy between prevailing sentiment and the actual facts regarding foreclosures. First, industry data consistently aggregates information on foreclosures, providing a broad averaging of foreclosure activity, whereas review of the actual data on a state-by state basis shows a different picture. According to RealtyTrac, Foreclosure activity in 2012 decreased from 2011 in 12 out of the nation’s 20 largest metro areas, led by Phoenix (down 37 %), San Francisco (down 30 %), Detroit (down 26 %), Los Angeles (down 24 %), and San Diego (down 24 %). But 2012 foreclosure activity increased in eight of the 20 largest metros, led by Tampa (80 % %), Miami (36 t %), Baltimore (34 %), Chicago (30 %), and New York (28 %).

Newly enacted foreclosure laws at the state level over the past two years have caused a contributing factor in the drop of default filings. California, Florida and Nevada arguably had the highest foreclosures rates in the nation. Yet recent statistics show a relationship between various state legislative actions and a slowdown in foreclosures, including Nevada requiring lenders to prove their rights to foreclose in 2011 and California’s Homeowner’s Bill of Rights enacted in 2013. So while these laws inevitably contributed to a dramatic decrease in completed foreclosures which is reflected in lower default-filing statistics, in reality, there are still eight to ten million units that comprise a substantial ‘shadow inventory’ of housing supply still subject to foreclosure. California and Nevada follow non-judicial procedures for filings. Judicial states, are still coping with pending cases simply caught in the court system. Foreclosure inventory in judicial states is still three times higher than that of non-judicial states, according to Lender Processing Services (LPS).

Second, industry data on distressed assets reports historically, typically analyzing activity 60 – 90 days prior to the actual reporting date. While real-time foreclosure data would be difficult to obtain and verify, default servicing specialists are as active as ever these days processing foreclosures. This trend is confirmed by two Peak Corporate Network executives. Kelli Espinoza is Executive Vice President overseeing operations at Peak Foreclosure Services, Inc., which serves as the primary Peak entity specializing in a wide range of default servicing solutions catering to banks, credit unions, and small investors nationwide. She characterizes current activity as “brisk.” Peak’s foreclosure unit is currently processing a steady flow of files generated by private equity and investment firms in the distressed asset sector. While prevailing housing analysis reporting on past distressed performance have indicated a decline in defaults, there are still a significant number of foreclosures making their way through the pipeline. Espinoza states that“While we’ve been able to facilitate many workouts on the borrower’s behalf to avoid a default situation, I’m pretty confident in saying that we’ll be processing foreclosures for clients for some time to come.”

Raffi Tal, Executive Vice President of I Short Sale, Inc., one of the Peak entities working exclusively with distressed homeowners, affirms that there’s still a “clear and present danger of Americans losing their homes. We are still heavily involved in negotiating workout solutions on behalf of homeowners that have no other alternative.”

It is important to note that regardless of industry trends showing a decline in foreclosure starts, each month thousands of Americans are still losing their homes at a rapid pace. The real estate industry cannot and should not become complacent in aggressively pursuing ways to help homeowners retain their most valuable asset. While the battle to stem the tide of foreclosures seems to be tipping in the favor of distressed homeowners, it would be a grave mistake to assume the crisis is over.

 

Is the Marketplace Poised for a Return of Alternative Loan Products?

A return on the horizon for alternative loan products is inevitable.  While the products associated with this category have all but vanished, a new type of borrower is emerging that will reshape how loans that don’t fit the traditional 30-year-fixed model are fashioned.

Single family loans originated in 2010 and 2011 has proven to be the most solidly underwritten loans in years according to recent data from LPS.  While lenders’ conservative credit standards have been vilified as excluding many potential buyers from the market, the upside is that high quality mortgages are being originated by lenders, and eventually purchased by GSEs. 

From the lender perspective, this could indicate no need for subprime, Alt-A, or other types of “exotic” loans which were considered to be the root cause of the mortgage meltdown.  The issue with these products was that their underwriting standards weren’t based in reality. The predominance of these vehicles in the market was driven by lender/mortgage broker misuse, by marketing securities based on pools of mortgages with these shaky underwriting yet high returns, by appraisers being aware of the value needed for the loan to happen, and by poor oversight by government entities that guaranteed these products. As a result, poor loan quality destined for default was a defining element of this product set.

Stricter underwriting and scrutiny by regulators made subprime and Alt-A products virtually extinct and made borrowers with strong credit, deep reserves, and positive equity in existing properties the perfect borrower scenario for lenders. But now, the pendulum has swung the other way; qualified buyers who don’t meet these criteria are left in the cold and risk-averse lenders have taken the position that it is better to hold off on lending except in a perfect borrower scenario.

The need exists, however, to service this class of borrower.  New regulations governing our current lending environment, combined with more responsible lending practices, should provide the necessary restraints to prevent the credit misuse characteristic of alternative loan products seen in the last lending cycle.

Regulations requiring appraisals independence from broker shops, the end of yield-spread premium bonuses paid by lenders to brokers, and more upfront consumer disclosures are examples of current practices which should mitigate the risks of inflating home values and stop predatory marketing of non-traditional loan products to unqualified borrowers characteristic of the past real estate boom.  Moreover, the mortgage industry has taken a much more responsible stance toward to who it lends money.

The end result of these factors is twofold:  home values are substantiated and grounded in fair market value, and buyers will be vetted by a clear ability to afford the purchase price.  As the market stabilizes, more lenders should then feel comfortable originating loans at higher loan-to-value ratios, relaxing FICO criteria, or eventually streamlining documentation requirements for qualified buyers. 

“Qualified buyers” is of course, a moving target as the housing market regains its confidence and equilibrium.  But the class of qualified buyer is sure to grow past what the standard conforming 30-year loan model can accommodate. Lenders will need to relax some standards and offer new or better monitored “old” products to fill the void.