By Andrew Toth-Fejel, Bankruptcy Litigation Support for Attorneys, Andy@BLSforAttorneys.com
Last month a much-cited Credit Suisse report greatly increased its forecast of the number of U.S. residential mortgages anticipated to go into foreclosure, from its prior report last April. The report's headline was that 8.1 million mortgages are now anticipated to be in foreclosure within the next four years. But none of the stories about this report seemed to go beyond the first few sentences of the report's summary. (See this CNN-Money story, one in the Washington Post, and even one from a NACBA--National Association of Consumer Bankruptcy Attorneys--press release) Here are some valuable insights from inside this report.
Potential for Even More Foreclosures
Beyond the 8.1 million foreclosure headline, the report made clear that a more severe recession would push the number of foreclosures higher to a projected 10.2 million. Just factoring the "consensus increase in the unemployment rate to 8%" alone pushes the projection to 9.0 million. But on the other hand even a moderately successful loan modification program could bring the
foreclosures down to as "low" as 6.3 million.
However this last number assumes a modification rate of 50% of mortgages facing foreclosure along with a re-default rate of 40% of those modified mortgages. Given the tremendous ineffectiveness of mortgage modification programs so far (see my future Bulletin of 1/07/09 on this), these may be a very optimistic assumptions.
Rationale for Increase in Anticipated Foreclosures
The last Credit Suisse report on anticipated foreclosures in April 2008 forecast 6.5 million foreclosures in the next four years, so the increase to 8.1 million is substantial. The update is based on changes in mortgage delinquency rates, with home values continuing to decline putting more homeowners into negative equity positions.
Effect of Changes in the Labor Market
In this study, the increases in foreclosures were correlated to increases in the unemployment rate based on the assumptions that the home ownership rate is about 67%, so for every 100 newly unemployed, 67 will be homeowners, and a very high percentage of those have mortgages on their homes (those who own free and clear are largely either retired or self-employed, not in the conventional labor force). With some having cushions in the form of savings and/or a second income earner, the study assumed 60% of those who become unemployed will lose their homes. This yields a "40% response ratio of foreclosure to new unemployment."
Using this 40% ratio, and assuming "a steady rise in the unemployment rate, peaking at 8% at the end of 2009, then falling to 7% by the end of 2010 as the economy starts recovering" brings the total foreclosures to 9.0 million; while a "deep recession scenario follows the base case through 2009 but keeps increasing after that, peaking at 10% by the end of 2010" brings the total foreclosures to 10.0 million foreclosures during the four-year period.
The report also noted that not only do foreclosures go up directly with increases in the unemployment rate, foreclosures also increase among the formerly unemployed who find employment but with lower income, and among the underemployed, those going from full-time to part-time employment. Given the large number of homeowners who are overleveraged, even modest reductions in income among the employed will lead to foreclosures for many beyond those resulting from outright unemployment.
Effect of Loan Modification Programs
This study acknowledged the "aggressive effort, from both the government and the private sector, to expand loan modification efforts significantly," but stated that "there are many flaws with these programs and they won’t be sufficient to stem the rising tide of foreclosures." The study cited the limitations in eligibility to owner-occupied homes and for owner-occupiers who do not have second homes or any investment property. And "since most . . . programs only allow principal forbearance, borrowers deeply underwater may choose not to accept mod[ification]s if they will be obligated to pay the forbearance amount upon sale of the home."
Nevertheless the study presented two loan modification scenarios, a "best scenario, in which 70% of expected foreclosures are assumed to be modified with a re-default rate of 20%, total future foreclosure would decline [from 9.0] to 4.0 million, a 56% deduction. In comparison, the most conservative scenario, in which only 30% of foreclosures are modified and re-default at 60%, the total foreclosures would decline to 8.0 million."
Again, please return to this website to see my future Bulletin of 1/07/09 on the performance thus far of the current loan modification programs to see whether these are realistic assumptions.
Potential for Even More Foreclosures
Beyond the 8.1 million foreclosure headline, the report made clear that a more severe recession would push the number of foreclosures higher to a projected 10.2 million. Just factoring the "consensus increase in the unemployment rate to 8%" alone pushes the projection to 9.0 million. But on the other hand even a moderately successful loan modification program could bring the
foreclosures down to as "low" as 6.3 million.
However this last number assumes a modification rate of 50% of mortgages facing foreclosure along with a re-default rate of 40% of those modified mortgages. Given the tremendous ineffectiveness of mortgage modification programs so far (see my future Bulletin of 1/07/09 on this), these may be a very optimistic assumptions.
Rationale for Increase in Anticipated Foreclosures
The last Credit Suisse report on anticipated foreclosures in April 2008 forecast 6.5 million foreclosures in the next four years, so the increase to 8.1 million is substantial. The update is based on changes in mortgage delinquency rates, with home values continuing to decline putting more homeowners into negative equity positions.
The home price decline up to September 2008 has resulted in about 48% of subprime borrowers "underwater”, i.e., those with outstanding mortgage balances (including both first and second liens) that were higher than current property values. Among all non-agency loans, 41% were under water by September, with the highest percentage seen in option ARM loans (66%) and the lowest in prime jumbo loans (25%). Further, . . . we expect that 72% of subprime loans and 62% of all non-agency loans will have negative equity within two years. This is important because the propensity to default is highly correlated with the degree of negative equity. . . . . On average, the likelihood of rolling into default for borrowers deeply underwater, as measured by current loan-to-value (LTV) ratio higher than 110%, is two (for subprime loans) to four times (for other non-agency loans) that for borrowers whose current LTV is still less than 80%.In summary, "despite some initial signs that subprime foreclosures were near a plateau, the combination of severe weakening in the economy, continued decline in home prices, steady increase in delinquencies, particularly in the prime mortgage space, ensure that foreclosure numbers, absent more dramatic intervention, will march steadily higher."
Effect of Changes in the Labor Market
In this study, the increases in foreclosures were correlated to increases in the unemployment rate based on the assumptions that the home ownership rate is about 67%, so for every 100 newly unemployed, 67 will be homeowners, and a very high percentage of those have mortgages on their homes (those who own free and clear are largely either retired or self-employed, not in the conventional labor force). With some having cushions in the form of savings and/or a second income earner, the study assumed 60% of those who become unemployed will lose their homes. This yields a "40% response ratio of foreclosure to new unemployment."
Using this 40% ratio, and assuming "a steady rise in the unemployment rate, peaking at 8% at the end of 2009, then falling to 7% by the end of 2010 as the economy starts recovering" brings the total foreclosures to 9.0 million; while a "deep recession scenario follows the base case through 2009 but keeps increasing after that, peaking at 10% by the end of 2010" brings the total foreclosures to 10.0 million foreclosures during the four-year period.
The report also noted that not only do foreclosures go up directly with increases in the unemployment rate, foreclosures also increase among the formerly unemployed who find employment but with lower income, and among the underemployed, those going from full-time to part-time employment. Given the large number of homeowners who are overleveraged, even modest reductions in income among the employed will lead to foreclosures for many beyond those resulting from outright unemployment.
Effect of Loan Modification Programs
This study acknowledged the "aggressive effort, from both the government and the private sector, to expand loan modification efforts significantly," but stated that "there are many flaws with these programs and they won’t be sufficient to stem the rising tide of foreclosures." The study cited the limitations in eligibility to owner-occupied homes and for owner-occupiers who do not have second homes or any investment property. And "since most . . . programs only allow principal forbearance, borrowers deeply underwater may choose not to accept mod[ification]s if they will be obligated to pay the forbearance amount upon sale of the home."
Nevertheless the study presented two loan modification scenarios, a "best scenario, in which 70% of expected foreclosures are assumed to be modified with a re-default rate of 20%, total future foreclosure would decline [from 9.0] to 4.0 million, a 56% deduction. In comparison, the most conservative scenario, in which only 30% of foreclosures are modified and re-default at 60%, the total foreclosures would decline to 8.0 million."
Again, please return to this website to see my future Bulletin of 1/07/09 on the performance thus far of the current loan modification programs to see whether these are realistic assumptions.
by Andrew Toth-Fejel
Bankruptcy Litigation Support for Attorneys
Andy@BLSforAttorneys.com
PLEASE NOTE that this Bulletin and the entire contents of this website are NOT designed for the general public but rather only for attorneys. The writer is not licensed to practice law in any state. This means that he is not legally permitted to give any legal advice or perform any legal services. Any non-attorney reading this must consult an attorney about ANYTHING contained here. Nothing in this website is intended to be nor should be read as being legal advice to anyone.
© 2009 Bankruptcy Litigation Support for Attorneys
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