Foreclosures: No End in Sight

The recent stabilization of the housing market now appears to be a mirage, brought on by stopgap measures. “Until recently, many banks have put off launching foreclosure action on the troubled properties, in part because they had signed up for the Obama administration’s home-stability plan, which required them to consider the alternative of modifying loans to make it easier for borrowers to make payment. Unfortunately, the federal push to promote loan modifications and the related moratoriums that some states have imposed on foreclosures are already fading, at which point the foreclosure crisis is likely to expand.

“A new set of economic theorizing holds that any bottom that might have been glimpsed was a false one – just a plateau before a bigger drop, when lenders try to clear their books of bad loans. If that’s the case, the economic hole starts to look a lot deeper, and the housing crunch becomes another part of a larger, vicious cycle.” In other words, if banks move to place a fresh supply of foreclosed properties on the market, it will cause all prices to suffer. This will put even more pressure on those whose mortgages are already underwater (1 in 5, according to one estimate), and perhaps compel banks to race even faster to liquidate mortgages in default.

According to RealtyTrac, April “was the worst month ever, with more than 340,000 properties in some state of foreclosure nationally…They are expecting June’s numbers (to be released next week) to ‘give April a run for its money’ as worst month ever.” This was discerned from a large uptick in delinquent mortgages, many of which can be expect to result in foreclosures. “In the first quarter, some 1.8 million homeowners nationwide fell behind on their loans by 60 to 90 days, a 15% increase from the prior quarter, according to Moody’s Economy.com. The research firm said that loan defaults rose sharply as well, to 844,000 in the first three months of this year.”

Who’s to blame for this? The government appears to be doing as much as it can. “Foreclosure counseling is an extremely effective service; HUD reports that 45 percent of those who participated in 2008 were able to hang onto their homes.” While estimates vary, hundreds of thousands of borrowers have probably benefited from the loan modification program.

The problem is the banks, which continue to prefer foreclosure over loan modification. According to a new Federal Reserve paper, “lenders rarely renegotiate. Fewer than 3 percent of the seriously delinquent borrowers in our sample received a concessionary modification in the year following the first serious delinquency.”  There are two main reasons for banks’ entrenched resistance: “The first is ‘self-cure risk,’ which refers to the situation in which a lender renegotiates with a delinquent borrower who does not need assistance…The second cost comes from borrowers who default again after receiving a loan modification. We refer to this group as ‘redefaulters,’ and our results show that a large fraction (between 30 and 45 percent) of borrowers who receive modifications, end up back in serious delinquency within six months.”

More on loan modification- and why it’s failing – tomorrow….