The 2008 National Association of Regulatory Utility Commissioners (NARUC)
Collections Report came out this week. This association of state regulatory agencies surveys public utilities - 41 state agencies took part - to document payment problems experienced by residential energy consumers. The Summary Report is online, as well as a state by state tabulation. The headline is 1 in 5 consumers are behind. The share of utility bills that are behind is up a little bit between mid 2007 and mid 2008 (the survey took place earlier this year) and all evidence suggests things are worse now. Utilities may not cut off service in the winter and some sophisticated consumers might exploit this to pay off other bills first and pay utilities later...when spring comes and termination is threatened. Nevertheless the amount past due is also rising, as well as terminations and write offs, all of which are signs of distress.
The major policy at the federal level is LIHEAP (low income heating energy assistance program). This is about $5 billion block granted and distributed at the local level. This NARUC survey suggest less than 5% of gas consumers, and 2.5% of electric, get any help from this program.
Data from MortgageKeeper.org, which tracks what services mortgage default counselors are referring clients to, suggests as many as half of callers with referrals are looking for utility bill help. As winter sets in the trend is very predictable, especially in the Midwest.
There are only so many consumer dollars available to pay off monthly obligations. Proposals to boost LIHEAP or similar programs may have merit not only to help people in a recession but help prevent more mortgage defaults.
This issue highlights the need to better understand how many consumers manage their budgets. Financial education may help, but for some a pattern of trading off bills and late fees due to delinquencies may be rational and deliberate--but risky. Utility companies have robust data on payment patterns, including the form of payment (for example: money orders or cash = unbanked). Moreover utility company data offers information on consumers at all levels of income. Paying more attention to consumers in this market is likely to yield key proxy indicators of what is going on in the economy overall - yet another canary in the coal mine.
Friday, December 19, 2008
Monday, December 8, 2008
Tough Calls: A Mortgage Bailout
I spent a very interesting day and a half at the Fed last week at Housing and Mortgage Markets Conference. One idea that seems to be gaining momentum is that the Treasury (or FDIC, or FHA or all of these with the Fed) will start to buy pools of troubled loans with the idea of working out solutions to foreclosure. Now the FDIC has something like this with IndyMac- the FDIC took over this failing lender and is experimenting with modifications at scale. But for loans with interests across lots of private securities in the form or MBS (mortgage backed securities) this will not work. And this FDIC program is not getting strong response from borrowers because there is no principal reduction, and most are 'under water'. The FHA Hope for Homeowners (H4H) offers a solution, but lenders/investors must write down the principal balance and taking that loss is not attractive.
So the solution seems to be some method of buying pools, refinancing the loans into lower rate/lower balance mortgages, and then using FHA HFH insurance on the loans to make the loans something private lenders will hold. The result is the private MBS market comes back to life, borrowers who owe more than their home is worth will feel more secure and maybe ride out the house price drop, and home sales may stabilize. It makes some sense.
Problems? Many.
(1) It will be costly. Sure there is an upside if the government holds loans and performance improves. And with H4H any future appreciation of homes goes back to FHA and the Treasury (the borrower writes a check for 1/2 of any gain in value at sale or refinance). But there will be losses. And taxpayers in low foreclosure areas will be subsidizing those in high foreclosure areas with the aim of stabilizing 'national' credit and housing markets.
(2) Mechanism for purchase. How will Treasury pick which MBS pools to buy? It is unclear if the MBS pools have enough information available to make judgments about which pools will create the most bang for the buck. Since no other buyers in the MBS market have the ability to force mass loan modifications it is hard to imagine how pricing will work.
(3) Dealing with borrowers. How will they be contacted and lead into better loans? If deals are offered to all borrowers and borrowers opt in, some speculative borrowers who do not deserve it will latch on. While others will remain ignorant and miss out. Lots of issues remain here and judgments may end up being made about who deserves help. Further imagine sophisticated H4H borrowers who now see prices on the way up...there will be much gamesmanship in just when to sell or refinance to avoid a stiff appreciation penalty. And clearly borrowers who get their principal balance cut MUST pay some price for that...there is a strong moral hazard problem otherwise.
That said, of all the options on the table, this probably has the most merit. It seems very unlikely bankruptcy courts are a good route (timing, cost, volume, precedent, etc). And doing nothing will be very costly for the economy and credit markets. Foreclosure sales may run as high as 1 million out of the 4-5 million home sales this next year. 1 in 5 or 1 in 4 sales by some measures. Higher in some areas. We know forced sales like foreclosure depress home sales and prices (see this paper). It starts to add up fast.
One other theme I heard last week is that this housing market is actually quite normal. Most of the foreclosure problem is in CA, FL, NV and AZ. These states have been through boom and bust before. And the midwestern 'rust belt' is suffering but for a different reason - lack of jobs. It has been in a long term decline for quite a while. The rest of the country has pretty typical patterns in sales and prices for a recession. But because of the very high levels of consumer debt and the fact that that debt was sold and packaged as MBS and other forms of leveraged securities, and the fact that the housing market is moving at a national scale, unlike in past cycles, this one will be longer and deeper than before. There are signs the market will bottom out in 2009, based mostly in the CA, FL, NV, AZ markets' rapid tumble. But it will be a long flat bottom on the upturn, not a fast V-shaped recovery, mostly because credit markets are stuck but also the recession in jobs and investment will continue.
So, the outlook is not great. Policymakers have some tough calls to make. Doing nothing seems a poor course of action. Buying pools of MBS and boosting H4H (and investing in FHA infrastructure by the way) might just be the best available option if the details can be refined. With each passing week more research is coming out, lenders are reporting on new innovations and experiments and market participants are re-evaluating prices and information. The picture is getting clearer, and whatever happens it won't be cheap.
So the solution seems to be some method of buying pools, refinancing the loans into lower rate/lower balance mortgages, and then using FHA HFH insurance on the loans to make the loans something private lenders will hold. The result is the private MBS market comes back to life, borrowers who owe more than their home is worth will feel more secure and maybe ride out the house price drop, and home sales may stabilize. It makes some sense.
Problems? Many.
(1) It will be costly. Sure there is an upside if the government holds loans and performance improves. And with H4H any future appreciation of homes goes back to FHA and the Treasury (the borrower writes a check for 1/2 of any gain in value at sale or refinance). But there will be losses. And taxpayers in low foreclosure areas will be subsidizing those in high foreclosure areas with the aim of stabilizing 'national' credit and housing markets.
(2) Mechanism for purchase. How will Treasury pick which MBS pools to buy? It is unclear if the MBS pools have enough information available to make judgments about which pools will create the most bang for the buck. Since no other buyers in the MBS market have the ability to force mass loan modifications it is hard to imagine how pricing will work.
(3) Dealing with borrowers. How will they be contacted and lead into better loans? If deals are offered to all borrowers and borrowers opt in, some speculative borrowers who do not deserve it will latch on. While others will remain ignorant and miss out. Lots of issues remain here and judgments may end up being made about who deserves help. Further imagine sophisticated H4H borrowers who now see prices on the way up...there will be much gamesmanship in just when to sell or refinance to avoid a stiff appreciation penalty. And clearly borrowers who get their principal balance cut MUST pay some price for that...there is a strong moral hazard problem otherwise.
That said, of all the options on the table, this probably has the most merit. It seems very unlikely bankruptcy courts are a good route (timing, cost, volume, precedent, etc). And doing nothing will be very costly for the economy and credit markets. Foreclosure sales may run as high as 1 million out of the 4-5 million home sales this next year. 1 in 5 or 1 in 4 sales by some measures. Higher in some areas. We know forced sales like foreclosure depress home sales and prices (see this paper). It starts to add up fast.
One other theme I heard last week is that this housing market is actually quite normal. Most of the foreclosure problem is in CA, FL, NV and AZ. These states have been through boom and bust before. And the midwestern 'rust belt' is suffering but for a different reason - lack of jobs. It has been in a long term decline for quite a while. The rest of the country has pretty typical patterns in sales and prices for a recession. But because of the very high levels of consumer debt and the fact that that debt was sold and packaged as MBS and other forms of leveraged securities, and the fact that the housing market is moving at a national scale, unlike in past cycles, this one will be longer and deeper than before. There are signs the market will bottom out in 2009, based mostly in the CA, FL, NV, AZ markets' rapid tumble. But it will be a long flat bottom on the upturn, not a fast V-shaped recovery, mostly because credit markets are stuck but also the recession in jobs and investment will continue.
So, the outlook is not great. Policymakers have some tough calls to make. Doing nothing seems a poor course of action. Buying pools of MBS and boosting H4H (and investing in FHA infrastructure by the way) might just be the best available option if the details can be refined. With each passing week more research is coming out, lenders are reporting on new innovations and experiments and market participants are re-evaluating prices and information. The picture is getting clearer, and whatever happens it won't be cheap.
Sunday, November 30, 2008
FHA's Role in the Mortgage Market
The December 1 2008 issue of Business Week includes a cover article "The Subprime Wolves are Back". The theme of the piece is that former subprime mortgage brokers and mortgage bankers are now pushing FHA mortgage products. The article suggests FHA will create another $100 billion in taxpayer liabilities due to the higher levels of risk FHA is taking on.
It is a good piece and Business Week actually has done quite a bit of pro-consumer journalism on issues of consumer credit. The content and tone of this article raises is worrisome in several respects, however.
Remember FHA was created in the Depression to insure mortgage loans. FHA-approved lenders can make loans on which they can more or less count on FHA approving a mortgage insurance policy. FHA insurance covers most of any losses a lender might take on a foreclosed loan. The lender ends up paying about $3,000 in costs regardless, so it is not 100% insurance, but pretty close. FHA loans are also more costly to make due to added forms and regulatory processes. So this is not a free lunch for lenders.
But FHA will allow smaller downpayments -as low as 3% - and will permit borrowers to receive loans even if they have less than perfect credit. FHA loans will allow a borrower to access credit sooner after bankruptcy (1-3 years) or a past foreclosure (3 years) than prime loans. FHA historically has not been credit score driven but few FHA loans go to borrowers with credit scores below 580. Borrowers pay an insurance premium - both at the close of the loan and as part of the monthly payment.
In the last decade FHA has generated far more in premiums than it paid out in claims. In 2000 the annual FHA 'surplus' was over $16 billion. Of course all of this went right into the Federal budget - like most programs there is no 'lockbox' for future liabilities. In some years the FHA actually paid out a mutual benefit payment to insureds - and there were many proposals to use the FHA surplus to cut premiums (which happened) or to set up a set-aside fund for affordable housing (which did not). Of course the rise of subprime cut into FHA's business. In 2006, before the bubble burst, policymakers were trying to re-invent FHA since its market share plummeted from about 1 in 5 loans to 1 in 20 loans. The current credit crisis has spawned some new FHA products - like Hope for Homeowners (H4H in HUD-speak). This product allows borrowers who owe more than their home is worth to refinance for a smaller loan, if the lender will write off the remainder. Loan volume has been slow, as you might imagine lenders are not eager to write off loan amounts. There's no free lunch here, either, since homebuyers share half of any future home price gains with FHA.
The Business Week article misses a few points in my opinion. First, FHA has always had issues with fraud. The Sopranos even based an episode on FHA fraud. Mortgage brokers continue to be a problem because they act without skin the the game. The FHA insurance is not the problem, although FHA may be slower to move against problematic lenders than private mortgage insurance companies (this is anecdotal - I have not seen evidence on this). The problem continues to be the structure of the brokerage regulatory structure where states have little ability to oversee individual brokers. FHA adds complexity to the transaction and may create a wedge that makes lenders and borrowers feel they can get away with shadier tactics, but FHA is not a problem by itself.
The second issue the article touches on but fails to detail is FHA's own capacity. The new administration will soon nominate a new FHA commissioner. Most of the recent commissioners of the last 2 decades have been very capable administrators who generally were not pure political appointees. This is a big agency and includes a majority of the staff of the entire department of HUD. It deserves a prominent role with other agencies at the table in addressing the credit crisis. And FHA's aging staff and systems need support, training and replacement.
Finally, the tone of this article suggests that low-income and credit blemished borrowers will all end up in foreclosure. Even among the worst books of business in subprime 2 out of 3 borrowers have not defaulted. FHA's standards are higher and as designed FHA really is supposed to be a credit backstop for smaller first mortgage loans for owner occupants trying to on their feet in the housing market. Some borrowers - especially borrowers from minority communities who historically mistrust banks - trust the FHA brand and prefer FHA insured loans. FHA charges a premium and based on audits these premiums should be able to cover any required payouts. Even if they don't and require a year or two of additional federal budget allocations, years of the FHA 'surplus' likely more than offsets any shortfall during this credit crisis.
It's easy to disparage a government program with ongoing liabilities, especially one involving mortgages. FHA single-family mortgage insurance is generally a good program. As the credit market tightens it is plain old mortgage insurance programs are becoming more important. Its more exotic (and temporary) programs like H4H remain small and mostly experimental. Hopefully FHA administrative capacity will be enhanced and the cases of fraud and lenders with a history of problems will be fixed in the near future. .
It is a good piece and Business Week actually has done quite a bit of pro-consumer journalism on issues of consumer credit. The content and tone of this article raises is worrisome in several respects, however.
Remember FHA was created in the Depression to insure mortgage loans. FHA-approved lenders can make loans on which they can more or less count on FHA approving a mortgage insurance policy. FHA insurance covers most of any losses a lender might take on a foreclosed loan. The lender ends up paying about $3,000 in costs regardless, so it is not 100% insurance, but pretty close. FHA loans are also more costly to make due to added forms and regulatory processes. So this is not a free lunch for lenders.
But FHA will allow smaller downpayments -as low as 3% - and will permit borrowers to receive loans even if they have less than perfect credit. FHA loans will allow a borrower to access credit sooner after bankruptcy (1-3 years) or a past foreclosure (3 years) than prime loans. FHA historically has not been credit score driven but few FHA loans go to borrowers with credit scores below 580. Borrowers pay an insurance premium - both at the close of the loan and as part of the monthly payment.
In the last decade FHA has generated far more in premiums than it paid out in claims. In 2000 the annual FHA 'surplus' was over $16 billion. Of course all of this went right into the Federal budget - like most programs there is no 'lockbox' for future liabilities. In some years the FHA actually paid out a mutual benefit payment to insureds - and there were many proposals to use the FHA surplus to cut premiums (which happened) or to set up a set-aside fund for affordable housing (which did not). Of course the rise of subprime cut into FHA's business. In 2006, before the bubble burst, policymakers were trying to re-invent FHA since its market share plummeted from about 1 in 5 loans to 1 in 20 loans. The current credit crisis has spawned some new FHA products - like Hope for Homeowners (H4H in HUD-speak). This product allows borrowers who owe more than their home is worth to refinance for a smaller loan, if the lender will write off the remainder. Loan volume has been slow, as you might imagine lenders are not eager to write off loan amounts. There's no free lunch here, either, since homebuyers share half of any future home price gains with FHA.
The Business Week article misses a few points in my opinion. First, FHA has always had issues with fraud. The Sopranos even based an episode on FHA fraud. Mortgage brokers continue to be a problem because they act without skin the the game. The FHA insurance is not the problem, although FHA may be slower to move against problematic lenders than private mortgage insurance companies (this is anecdotal - I have not seen evidence on this). The problem continues to be the structure of the brokerage regulatory structure where states have little ability to oversee individual brokers. FHA adds complexity to the transaction and may create a wedge that makes lenders and borrowers feel they can get away with shadier tactics, but FHA is not a problem by itself.
The second issue the article touches on but fails to detail is FHA's own capacity. The new administration will soon nominate a new FHA commissioner. Most of the recent commissioners of the last 2 decades have been very capable administrators who generally were not pure political appointees. This is a big agency and includes a majority of the staff of the entire department of HUD. It deserves a prominent role with other agencies at the table in addressing the credit crisis. And FHA's aging staff and systems need support, training and replacement.
Finally, the tone of this article suggests that low-income and credit blemished borrowers will all end up in foreclosure. Even among the worst books of business in subprime 2 out of 3 borrowers have not defaulted. FHA's standards are higher and as designed FHA really is supposed to be a credit backstop for smaller first mortgage loans for owner occupants trying to on their feet in the housing market. Some borrowers - especially borrowers from minority communities who historically mistrust banks - trust the FHA brand and prefer FHA insured loans. FHA charges a premium and based on audits these premiums should be able to cover any required payouts. Even if they don't and require a year or two of additional federal budget allocations, years of the FHA 'surplus' likely more than offsets any shortfall during this credit crisis.
It's easy to disparage a government program with ongoing liabilities, especially one involving mortgages. FHA single-family mortgage insurance is generally a good program. As the credit market tightens it is plain old mortgage insurance programs are becoming more important. Its more exotic (and temporary) programs like H4H remain small and mostly experimental. Hopefully FHA administrative capacity will be enhanced and the cases of fraud and lenders with a history of problems will be fixed in the near future. .
Wednesday, November 19, 2008
Health Insurance as a Personal Finance Issue?
(I don't keep up with law journals but seem to keep commenting on them.)
Christopher T. Robertson, Richard Egelhof, & Michael Hoke have a forthcoming an article "Get Sick, Get Out: The Medical Causes of Home Foreclosures" in the health law journal Health Matrix (issue 18 (2008): pps 65-105). The authors sent me a preview copy and it is intriguing.
They surveyed about 2,000 borrowers in 4 key states- California, Florida, New Jersey and Illinois. They pulled data from foreclosure filings with the goal of finding out what got borrowers into trouble. Only 7% of the valid addresses responded, or about 128 borrowers. Not a large sample and the authors concede there could be some bias introduced by low response rates. They do provide some evidence non-response bias is minimal and in any case I am not sure it casts too much doubt on key findings.
Prior studies suggest health problems are associated with financial problems. Overall, this study finds 7 out of 10 respondents had some medical issue in the last year prior to foreclosure being filed. Only 1 out of 3 borrowers blamed their default on rising mortgage payments (or ARM 'resets') and less than 16% said their loan was always unaffordable. Most were facing a combination of a drop in income and unexpected expenses. And most had equity in their home--the "underwater" mortgage story is not what they found even in CA & FL. Only 15% reported being upside down on their mortgage.
46% reported an injury or illness in their household as causing the default. 27% were prevented from working at all due to this and 23% cited high medical bills. Most (more than 2/3rds) had medical insurance, but uncovered costs ran $5,000 on average. Medical expenses eat up modest savings accounts in a hurry. For borrowers who cited medical bills as a cause of default, the average bill was $15,000. More than 1 in 4 used home equity to try to pay off medical debt.
The paper suggests a number of policy options, including staying foreclosure for medical emergencies (not unlike what was attempted post-Hurricane Katrina in certain areas - not related to health issues). It also highlights emergency 'bridge' grants or loans like those provided in some states, HEMAP in Pennsylvania being a leading example. It also suggests health care and consumer health care coverage may be a risk factor lenders and policymakers might need to take more seriously when considering mortgage markets and special mortgage programs for high-risk consumers.
The authors might be able to use some econometric techniques to produce more robust findings, especially related to non-responses. But overall it is a solid effort and suggests more inquiry into this issue is warranted.
Christopher T. Robertson, Richard Egelhof, & Michael Hoke have a forthcoming an article "Get Sick, Get Out: The Medical Causes of Home Foreclosures" in the health law journal Health Matrix (issue 18 (2008): pps 65-105). The authors sent me a preview copy and it is intriguing.
They surveyed about 2,000 borrowers in 4 key states- California, Florida, New Jersey and Illinois. They pulled data from foreclosure filings with the goal of finding out what got borrowers into trouble. Only 7% of the valid addresses responded, or about 128 borrowers. Not a large sample and the authors concede there could be some bias introduced by low response rates. They do provide some evidence non-response bias is minimal and in any case I am not sure it casts too much doubt on key findings.
Prior studies suggest health problems are associated with financial problems. Overall, this study finds 7 out of 10 respondents had some medical issue in the last year prior to foreclosure being filed. Only 1 out of 3 borrowers blamed their default on rising mortgage payments (or ARM 'resets') and less than 16% said their loan was always unaffordable. Most were facing a combination of a drop in income and unexpected expenses. And most had equity in their home--the "underwater" mortgage story is not what they found even in CA & FL. Only 15% reported being upside down on their mortgage.
46% reported an injury or illness in their household as causing the default. 27% were prevented from working at all due to this and 23% cited high medical bills. Most (more than 2/3rds) had medical insurance, but uncovered costs ran $5,000 on average. Medical expenses eat up modest savings accounts in a hurry. For borrowers who cited medical bills as a cause of default, the average bill was $15,000. More than 1 in 4 used home equity to try to pay off medical debt.
The paper suggests a number of policy options, including staying foreclosure for medical emergencies (not unlike what was attempted post-Hurricane Katrina in certain areas - not related to health issues). It also highlights emergency 'bridge' grants or loans like those provided in some states, HEMAP in Pennsylvania being a leading example. It also suggests health care and consumer health care coverage may be a risk factor lenders and policymakers might need to take more seriously when considering mortgage markets and special mortgage programs for high-risk consumers.
The authors might be able to use some econometric techniques to produce more robust findings, especially related to non-responses. But overall it is a solid effort and suggests more inquiry into this issue is warranted.
Friday, November 14, 2008
Mortgage Disclosures, Another Round
HUD has announced a new RESPA (real estate settlement procedures act) regulation. RESPA reforms have been discussed for decades. HUD proposed various reforms to RESPA in the last 8 years each time beaten back by trade groups, other policy priorities or just plain old poor execution. The current change intends to strengthen the Good Faith Estimate (GFE) provided to mortgage loan applicants at or near the time of the first application for a loan. And then to beef up disclosures provided at the closing table. It initially even included a proposal to actually read a script to would-be borrowers about the terms of the loan.
Disclosure can work...if a policy goal is to have borrowers re-think their loan options and shop around or even exit the market. In theory more shopping around results in borrowers finding lower cost options and being better informed. Of course it might also just take up time and energy and gain the borrower little in lowered costs for their efforts. It is hard to say what the 'optimal' amount of shopping should be, although lots of pundits seem to like to make these assumptions lately.
The GFE has long been a problem. Lenders claim that it may be weeks or months from application to closing. It is impossible to say for sure what the interest rate and terms will be for a loan in the future. There is some validity to this. HUD now says the GFE must be within 10% of actual. That is probably a good step, but the GFE is vague and still probably not ideal for comparison shopping. Nor does is suggest/promote shopping. And the consumer really has no way to judge the relative cost of the loan offer compared to what else may be out there.
At the closing table the new RESPA rule requires 3 pages of disclosures about loan terms, prepayment and other penalties, and other conditions. There are several problems with disclosures at the loan closing. First, at this point the borrower has invested time and energy in the deal and basically just wants to sign the loan. Walking away is costly (in terms of opportunity costs at least). Second, there are a number of forms, contracts and disclosures required at closing, especially if the loan closing is simultaneous with a home purchase. Whether the form is written or read aloud, it probably would not have much effect on behavior.
It is interesting to note that the Federal Reserve also has disclosure authority under the Truth in Lending Act (TILA) as well as HOEPA (Home Owner Equity Protection Act). Apparently HUD and the Fed have been working separately on changes to TILA and RESPA changes. HOEPA only applies to high cost loans. My own research on aspects of HOEPA loans suggests a warning " YOU MAY LOSE YOUR HOME" provided at least 3 days before the closing, can be an effective mechanism if a goal is to encourage borrowers to walk away from a loan offer.
The problem borrowers have is judging what is a good deal. For a borrower with perfect credit, scanning the web or a local paper may provide a sense of the best APR available and then look for no fees or points (or the lowest). But what if you don't know if you have good credit? What if you know you have a 600 credit score? It is less clear what the going rate might be. Attempts to standardize pricing have been sporadic at best. One innovative experiment is MortgageGrader.com which offers the equivalent of a blue book guide for mortgages. Perhaps more lenders will follow this model as mortgage lenders consolidate and become more cautious about lending and fear being accused of taking advantage of confused borrowers.
So where does this leave HUD's RESPA reform? It is the right direction, for sure, but short of what consumers would ideally have in a legally mandated disclosure. At the very least the APR, fees and terms of the loan should be provided 3-5 business days before the closing and require a signature from the borrower acknowledging receipt and understanding. The disclosure might also make clear the borrower should shop around for the best terms and conditions, and ideally even suggest sources of information on current interest rates, such as a government website with current rates by credit score (which does not yet exist). Some time of warning about the risks of a loan, including foreclosure, also should be explicit. I suspect some new formats of disclosure may emerge too, such as web-based or video-based information.
The Fed and HUD, and maybe FTC as well, are likely to keep trying to make consumer disclosures better in the next year. There is not a great deal of research in this arena - at least not recent research. Let's hope policymakers are able to come up with sensible solutions in any case.
Disclosure can work...if a policy goal is to have borrowers re-think their loan options and shop around or even exit the market. In theory more shopping around results in borrowers finding lower cost options and being better informed. Of course it might also just take up time and energy and gain the borrower little in lowered costs for their efforts. It is hard to say what the 'optimal' amount of shopping should be, although lots of pundits seem to like to make these assumptions lately.
The GFE has long been a problem. Lenders claim that it may be weeks or months from application to closing. It is impossible to say for sure what the interest rate and terms will be for a loan in the future. There is some validity to this. HUD now says the GFE must be within 10% of actual. That is probably a good step, but the GFE is vague and still probably not ideal for comparison shopping. Nor does is suggest/promote shopping. And the consumer really has no way to judge the relative cost of the loan offer compared to what else may be out there.
At the closing table the new RESPA rule requires 3 pages of disclosures about loan terms, prepayment and other penalties, and other conditions. There are several problems with disclosures at the loan closing. First, at this point the borrower has invested time and energy in the deal and basically just wants to sign the loan. Walking away is costly (in terms of opportunity costs at least). Second, there are a number of forms, contracts and disclosures required at closing, especially if the loan closing is simultaneous with a home purchase. Whether the form is written or read aloud, it probably would not have much effect on behavior.
It is interesting to note that the Federal Reserve also has disclosure authority under the Truth in Lending Act (TILA) as well as HOEPA (Home Owner Equity Protection Act). Apparently HUD and the Fed have been working separately on changes to TILA and RESPA changes. HOEPA only applies to high cost loans. My own research on aspects of HOEPA loans suggests a warning " YOU MAY LOSE YOUR HOME" provided at least 3 days before the closing, can be an effective mechanism if a goal is to encourage borrowers to walk away from a loan offer.
The problem borrowers have is judging what is a good deal. For a borrower with perfect credit, scanning the web or a local paper may provide a sense of the best APR available and then look for no fees or points (or the lowest). But what if you don't know if you have good credit? What if you know you have a 600 credit score? It is less clear what the going rate might be. Attempts to standardize pricing have been sporadic at best. One innovative experiment is MortgageGrader.com which offers the equivalent of a blue book guide for mortgages. Perhaps more lenders will follow this model as mortgage lenders consolidate and become more cautious about lending and fear being accused of taking advantage of confused borrowers.
So where does this leave HUD's RESPA reform? It is the right direction, for sure, but short of what consumers would ideally have in a legally mandated disclosure. At the very least the APR, fees and terms of the loan should be provided 3-5 business days before the closing and require a signature from the borrower acknowledging receipt and understanding. The disclosure might also make clear the borrower should shop around for the best terms and conditions, and ideally even suggest sources of information on current interest rates, such as a government website with current rates by credit score (which does not yet exist). Some time of warning about the risks of a loan, including foreclosure, also should be explicit. I suspect some new formats of disclosure may emerge too, such as web-based or video-based information.
The Fed and HUD, and maybe FTC as well, are likely to keep trying to make consumer disclosures better in the next year. There is not a great deal of research in this arena - at least not recent research. Let's hope policymakers are able to come up with sensible solutions in any case.
Sunday, November 2, 2008
State Foreclosure Laws and Default Counseling
With rising levels of home mortgage foreclosure filings, policymakers are increasingly exploring how public programs and processes can be designed to prevent families from losing their homes.
In a recent paper with Chris Herbert and Ken Lam of Abt Associates, we explore the extent to which consumers may benefit from three types of state foreclosure polices: (1) judicial foreclosure proceedings, (2) rights of redemption, and (3) statewide foreclosure prevention initiatives. We also test how voluntary efforts of lenders to promote third party default counseling may also benefit consumers, as well as how these efforts may be more powerful in states with each state policy.
We used data on 32,000 borrowers in default from one national lender during the 15 month period of January 2007 through March 2008.
In general judicial proceedings, rights of redemption and state foreclosure interventions have little effect on the cure rate or foreclosure avoidance in the period we examined. Although we found weak effects of state policies in general, the direction was inconclusive. Loans in states with judicial proceedings may benefit consumers by allowing more opportunities for borrower-lender contact, but may also be associated with worsening loan outcomes such as foreclosure filings. No state policy was associated with either an increase or a decrease in borrowers losing their homes to foreclosure.
Lender voluntary offers of telephone-based default counseling are associated with about a 12% reduction in days delinquent. This is a promising finding suggesting promoting consumers to call a hotline might actually help consumers (we created a control group using a group of borrowers not offered counseling --so technically we can report on the offer of counseling not the actual receipt of it).
The more interesting finding is that when offers of counseling are implemented in states with foreclosure prevention policies or programs, borrower-lender contact rates are about 12% higher and rates of foreclosure filings 30% lower than when implemented in states without such policies.
The implications of these findings suggest state policy efforts at preventing foreclosure may be enhanced by coordination with financial institutions and counseling providers. So states with high foreclosure rates which offer media campaigns, refinance pools, grants and other initiatives combined with lender offers of default counseling may prove most successful.
The paper will be presented at a couple of conferences in the coming weeks, and likely improved with the comments of discussants. In the meantime a draft version is online.
In a recent paper with Chris Herbert and Ken Lam of Abt Associates, we explore the extent to which consumers may benefit from three types of state foreclosure polices: (1) judicial foreclosure proceedings, (2) rights of redemption, and (3) statewide foreclosure prevention initiatives. We also test how voluntary efforts of lenders to promote third party default counseling may also benefit consumers, as well as how these efforts may be more powerful in states with each state policy.
We used data on 32,000 borrowers in default from one national lender during the 15 month period of January 2007 through March 2008.
In general judicial proceedings, rights of redemption and state foreclosure interventions have little effect on the cure rate or foreclosure avoidance in the period we examined. Although we found weak effects of state policies in general, the direction was inconclusive. Loans in states with judicial proceedings may benefit consumers by allowing more opportunities for borrower-lender contact, but may also be associated with worsening loan outcomes such as foreclosure filings. No state policy was associated with either an increase or a decrease in borrowers losing their homes to foreclosure.
Lender voluntary offers of telephone-based default counseling are associated with about a 12% reduction in days delinquent. This is a promising finding suggesting promoting consumers to call a hotline might actually help consumers (we created a control group using a group of borrowers not offered counseling --so technically we can report on the offer of counseling not the actual receipt of it).
The more interesting finding is that when offers of counseling are implemented in states with foreclosure prevention policies or programs, borrower-lender contact rates are about 12% higher and rates of foreclosure filings 30% lower than when implemented in states without such policies.
The implications of these findings suggest state policy efforts at preventing foreclosure may be enhanced by coordination with financial institutions and counseling providers. So states with high foreclosure rates which offer media campaigns, refinance pools, grants and other initiatives combined with lender offers of default counseling may prove most successful.
The paper will be presented at a couple of conferences in the coming weeks, and likely improved with the comments of discussants. In the meantime a draft version is online.
Foreclosures and Consumer Perceptions
In March 328 owners and renters in greater Chicago answered a set of questions about their willingness to invest in housing. In August 349 renters in greater San Francisco did the same. For each respondent we collected a zip code, allowing a matching of the 'neighborhood' foreclosure rate to the respondent. The result? No surprise, foreclosures weaken consumers' enthusiasm for buying or maintaining a home.
We asked "How many people who buy a home this year will lose it in a foreclosure?". The mean answer was between 35 and 38 in both cities--quite a bit higher than reality (the most pessimistic estimate is 20/100 could lose their home). In both areas each percentage point increase in foreclosure rates (say from 2% to 3%) results in consumers perceiving about a 6/100 increase in the risk of foreclosure. This is controlling for age, income, race, language and other factors. It also includes fixed effects to account for any unobserved characteristics of the zip code.
Among owners in Chicago (owners were not included in the San Fran sample), an increase in foreclosure rates was associated with a 5% decrease in willingness to invest in a $5,000 home repair or improvement. In San Francisco each percentage point boost in foreclosure rates was associated with a 10% drop in agreement with the idea that owning a home is better than renting in general. Renters also show about an 8% reduction in willingness to buy a home in 6 or 12 months for each point rise in foreclosure rates (although not in 36 months).
The general finding is that owners in high foreclosure areas, even controlling for the other factors you might expect to influence opinions, are report a lower level of willingness to maintain their homes. Meanwhile renters in higher foreclosure areas have a reduced willingness to buy a home at least in the short (under 2 years) run. This has the potential to create a negative feedback loop where high foreclosure areas have lower levels of investment in housing, which undermine home values and could result in more foreclosures on the margin.
The current policy debates about rescuing lenders versus borrowers, and the allocation of subsidies to buy/renovate/demolish foreclosed properties should heed these results. Foreclosures do not happen in isolation and the ripple effects of an additional foreclosure on a neighborhood should not be underestimated.
We asked "How many people who buy a home this year will lose it in a foreclosure?". The mean answer was between 35 and 38 in both cities--quite a bit higher than reality (the most pessimistic estimate is 20/100 could lose their home). In both areas each percentage point increase in foreclosure rates (say from 2% to 3%) results in consumers perceiving about a 6/100 increase in the risk of foreclosure. This is controlling for age, income, race, language and other factors. It also includes fixed effects to account for any unobserved characteristics of the zip code.
Among owners in Chicago (owners were not included in the San Fran sample), an increase in foreclosure rates was associated with a 5% decrease in willingness to invest in a $5,000 home repair or improvement. In San Francisco each percentage point boost in foreclosure rates was associated with a 10% drop in agreement with the idea that owning a home is better than renting in general. Renters also show about an 8% reduction in willingness to buy a home in 6 or 12 months for each point rise in foreclosure rates (although not in 36 months).
The general finding is that owners in high foreclosure areas, even controlling for the other factors you might expect to influence opinions, are report a lower level of willingness to maintain their homes. Meanwhile renters in higher foreclosure areas have a reduced willingness to buy a home at least in the short (under 2 years) run. This has the potential to create a negative feedback loop where high foreclosure areas have lower levels of investment in housing, which undermine home values and could result in more foreclosures on the margin.
The current policy debates about rescuing lenders versus borrowers, and the allocation of subsidies to buy/renovate/demolish foreclosed properties should heed these results. Foreclosures do not happen in isolation and the ripple effects of an additional foreclosure on a neighborhood should not be underestimated.
Subscribe to:
Posts (Atom)
Posts
