Reports last week surfaced that the Treasury Department is contemplating changes to the Home Affordable Modification Program (HAMP), which has been widely criticized for being ineffective.
There are several changes to the program that the Treasury is looking at, according to a document obtained by American Banker, ASR's sister publication.
The document said that lenders would be asked to delay foreclosures by at least 30 days if they have denied a borrower a mortgage modification. The administration might also require lenders to stop any foreclosure actions while a borrower is involved in a trial modification.
The Treasury, among other changes it is contemplating, is also considering allowing trial modifications to be extended by an additional two months to five, which would accommodate delays in receiving necessary paperwork from bankruptcy courts.
Indeed the Treasury seems to be trying to get to the bottom of the problems with HAMP. The government agency is paying a lot of attention to the trial modification stage, where a burgeoning number of borrowers are in limbo and are uncertain of converting into permanent modifications.
According to analysis by ProPublica, an independent, nonprofit investigative news service, around 97,000 homeowners are currently in the trial period for more than six months. Meanwhile, the number of homeowners who have been in trial modifications for longer than three months has reached 475,000. The bulk of these borrowers have their mortgages with the top servicers (see Chart 1 on page 18).
Mortgage analysts generally expect that the number of trial modifications will significantly decrease once the Treasury requires servicers to ask for documentation from the trial modification stage. This change, however, will not be implemented until June 1. The backlog of trials is due to the swell of trial modifications done last summer and fall, ProPublica's Paul Kiel said.
Coversions to Permanent Mods
The initial focus of the HAMP is to have at least 500,000 borrowers undergo trial loan modifications by November 2009.
Although the participating servicers surpassed that target, many of these borrowers did not convert into permanent modifications.
According to Sandeep Bordia, a strategist at Barclays Capital, because of the lack of conversions from trial to permanent mods, the government started to focus its efforts on making sure that these conversions happened, thus an uptick in permanent modifications was seen in December and January.
According to a report from Barclays dated Feb. 5, the pace of modifications on non-agency securitized loans had slowed down significantly from the pre-HAMP highs. Over the last two months, however, there has been a notable uptick in the number of modifications in the non-agency space.
"Going forward, we are going to see a lot more permanent modifications, since there are a fair number of borrowers sitting in the trial modification buckets for the last several months," Bordia said.
Barclays also expects to see a slowdown in trial modifications since servicers, unlike in the intitial stages of the HAMP program, will be required to collect loan documentation upfront. Moreover, the pool of HAMP-eligible delinquent borrowers without a trial mod has shrunk.
Bordia said that based on existing delinquent loans, 1.7 million borrowers qualify for trial loan modifications; out of that, 1.2 million will probably become permanent loan modifications.
However, he said that the redefault rate on these permanent mods will likely be 60% to 70% based on the data that Barclays is seeing. He expects newer modifications, however, to perform better.
"Based on the numbers we have today, it will be hard to reach the target 3 million to 4 million permanent mods by focusing just on delinquent borrowers," he said. "Even assuming it is done, they might be able to avoid only 1.5 million foreclosures based on expected default rates."
Difficulty in finding enough HAMP-eligible delinquent loans, according to Bordia, might force the administration to shift its efforts on loans that are still current or relax debt-to-income or net present value model-based eligibility requirements on delinquent loans.
Types of Modifications
According to the Barclays report, within securitized deals, modification rates are still highest in subprime loans, although there has been a meaningful rise in Alt-A hybrids and Alt-B and, to a lesser degree, in option ARMs. The share of debt forgiveness, according to the report, is still small but has picked up. Meanwhile, payment reductions have also increased.
"Debt forgiveness comes with an upfront cost to the lender; on top of that there's the moral hazard issue," Bordia said.
Borrowers, he said, who otherwise are capable of making the monthly mortgage payment might intentionally default to take advantage of this modification option..
In their Jan. 29 edition of Amherst Mortgage Insight, Amherst Securities Group analysts said that one of the largest issues in the mortgage market is that the current form of modifications is not working.
They said that clearly writing down principal is needed to raise the modification success rate. But, an obstacle to writing down principal of a first mortgage is the existence of a second mortgage or subordinate lien.
"Lien priority dictates that the first mortgage cannot be written down until the second is extinguished," analysts wrote.
Second liens, moreover, are not an inconsequential factor because they appear disproportionately on the books of the largest banks, so the loan's extinguishment would affect the capital position of these institutions.
There are different paths to modification, according to Bordia. A servicer would first look at HAMP eligibility. To the extent that the borrower does not qualify, the servicer might decide to put the borrower under one of its modification programs. If that doesn't happen, a short sale or a program that allows borrowers to leave their loan voluntarily might be pursued.
For example, Citibank recently announced a program in select states where borrowers are allowed to stay in their home for six months and the bank pays for part of their relocation expenses, instead of foreclosing on their house.
Outside of HAMP, there are other options such as the Federal Housing Administration's Hope for Homeowners or H4H program. However, Bordia said that the program has largely been unsuccessful thus far. "There is less hope at this point that something can happen under this initiative," he said.
Option for Servicers
According to Bordia, HAMP has a lot of shortcomings that will become more apparent in 2010. He said that this might cause the administration to make changes that are manageable as well as some that have much bigger implications to the broader ABS market.
One of the changes that is being contemplated, he said, is to make it more onerous for servicers to reject borrowers for HAMP modification. The government might require them to do the rejection in writing. This would, according to Bordia, increase the timeline for borrowers to go into foreclosure or debt forgiveness and continue the foreclosure paralysis.
Outside of government programs, servicers are seeking out ways to determine which borrowers can still be stopped from going into foreclosure.
Lender Processing Services (LPS) is working with servicers right now using its Optimal Modification (OptiMod) program. Kyle Lundstedt, a managing director with LPS Applied Analytics, said that the product helps servicers make better decisions about how to modify loans.
"OptiMod allows servicers to choose efficiently from the three tools in their modification toolbox: reducing interest, reducing principal, and extending the term of the loan," Lundstedt said. "How should the servicer balance the use of these three tools in a way that trades-off reducing re-default rates and payment-to-income (PTI) ratio via modification against the resulting loss in loan value?"
According to the HAMP overview published on the HAMP administration Web site, the recommended loan modification "cascade" first reduces the interest rate, then extends the term if necessary, and then reduces the principal if needed. While a reasonable approach, Lundstedt noted, as a result, the vast majority of loan modifications under HAMP have been interest rate-driven.
As Chart 2 on page 18 shows, however, a simple interest rate modification is not necessarily the best way to make trade-offs among reducing re-defaults, reducing the borrower's PTI ratio, and increasing the value of the loan to the investor.
Lundstedt suggested that how one modifies a loan should depend on the servicer's choice of what constitutes an "optimal" trade-off, as well as a rigorous quantitative assessment of how changes to the loan will affect its future re-default performance and present value.
"For example, our experience with several large servicers indicates that principal reduction may be the appropriate first choice for a small but significant segment of delinquent loans," he said. "The challenge is finding the right tool to help identify which loans in a portfolio merit this treatment, and how much principal reduction to offer each loan."
Saving Face, If Not the House
After years of talking about "preserving homeownership," the mortgage servicing industry has a new buzzword: finding a "graceful exit" for seriously delinquent homeowners who do not qualify for loan modifications.
To move these borrowers out of their homes with a minimum of delay, friction or embarrassment, Fannie Mae and Freddie Mac are telling servicers to increase the use of alternatives to foreclosure such as short sales and deeds-in-lieu.
"Some people just are unwilling or unable to be helped," Eric Schuppenhauer, a Fannie Mae senior vice president, said Wednesday at a Mortgage Bankers Association servicing conference in San Diego. "They now must go to some form of liquidation and hopefully a graceful exit from the home."
Foreclosure timetables "got a little crazy last year," he said, as servicers held off on filing default notices or taking title to properties while offering borrowers a chance to rework loan terms through the government's Home Affordable Modification Program.
Ingrid Beckles, Freddie Mac's senior vice president of default asset management, told the conference there is greater "recognition that we need to come to some closure on the decisioning process."
More than 30% of the seriously delinquent loans held by Freddie are backed by vacant homes, she said. Many states have courts clogged with foreclosure filings.
"We're standing in line in Florida," Beckles said.
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