Mortgage Delinquencies in Ohio: Are Loan Modifications Stemming the Tide?

Even at this relatively low rate of modifications servicers are not able to cope with the increasing demand for modifications, according to the counseling agencies surveyed. Most respondents report that it takes between 120 and 240 days for borrowers to reach a loan workout with the servicer or lender. In addition, they find that process errors—multiple requests for paperwork, incorrect evaluation, lack of communication between departments, etc.—are common.

II. In May 2008, the highest percent of delinquent loans was composed of privately securitized loans (42%, table 1). By May 2009 (the start of our post-HAMP period), seriously delinquent loans were more evenly spread between GSE-securitized and privately securitized loans (35% and 34% respectively).

This shift is consistent with an increase in delinquencies in the prime sector (table 1).

III. Loan modifications that involve a payment decrease have risen across all investor types. In the post-HAMP period, while portfolio-held delinquent loans are receiving more concessionary modifications, GSE-securitized loans are being modified with a larger reduction in median monthly payment.

While the increase in concessionary modifications occurs across all investor types, table 1 shows a steeper increase of private label and portfolio loans. Modifications of GSE-held loans, however, display the greatest percent decrease in the median monthly payment (26%).

1. * Editor’s Note: These two values in Table 1 (median monthly payment decrease for government loans, in both periods) were corrected on November 12, 2010.
2. SOURCE: Calculations based on loan modification flagging algorithm on LPS data. Algorithm provided by researchers at the Federal Reserve Banks of Atlanta and Boston.

Observations IV and V refer to figure 2, which compares the performance of seriously delinquent loans that were modified (blue) and not modified (red) in Ohio during the two periods of study. In order to compare relative magnitudes of loans in each category, all quantities are indexed to the number of delinquent, not modified loans during the pre-HAMP period, which appears as 100 percent in the charts.

IV. About 18 percent of seriously delinquent, not modified loans recover on their own during the post-HAMP period (May 2009 to January 2010), although this recovery rate is lower in comparison to the previous period (see figure 2).

During the pre-HAMP period, about 22 percent of loans that had become seriously delinquent improved their status, or self-cured, within six months without a loan modification (see figure 2). We refer to self-cured loans as loans that change their status from seriously delinquent to 30 days delinquent or current. More recently (in the post-HAMP period), however, there are no signs that distressed borrowers are coping better on their own. In fact, the self-cure rate has gone down in our sample to about 18 percent due to an increase in delinquencies.

V. For every modified loan, there were 10 seriously delinquent ones during the post-HAMP study period, compared to one in nine during the pre-HAMP period. However, the more recently modified loans experience lower re-default rates.

About 4 out of 10 loans modified during the pre-HAMP period (May 2008 to April 2009) had re-defaulted by the 6th month following modification (see figure 2). In the post-HAMP period (May 2009 to January 2010), although more loans are being modified, they nevertheless constitute only about 9 percent of seriously delinquent loans. On the plus side, the re-default rates of these modified loans decreased considerably in the post-HAMP period compared to pre-HAMP; just 28 percent (about 3 out of 10) of these modified loans become seriously delinquent by the 6th month, down from nearly 40 percent.

Overall, the picture of delinquent loans in Ohio remains dim. Figure 2 illustrates the magnitude of the problem. While it is encouraging that more recent modifications experience fewer re-defaults, most of the troubled loans are neither being successfully modified nor recovering on their own.

A closer look into those loans that are modified confirms that fewer are re-defaulting. Figure 3 shows consistently higher estimated survival rates of modified loans for the post-HAMP period.

A Look into the Improved Performance of More Recently Modified Loans

A number of factors may explain this improvement in the performance of modified loans. We outline three non-exclusive hypotheses below and make use of our data to consider the likelihood of each possibility.

Hypothesis 1: Hardships that affect borrowers' ability to pay may have declined.

If a reduction in hardships affecting borrowers' ability to pay were the case, we would expect to see higher self-cure rates among non-modified loans. That is not the case here, as we see lower self-cure rates. At the same time, counseling agencies that responded to our survey reported higher numbers of clients experiencing job loss in recent times along with increased demand for the agencies' services.

Hypothesis 2: Riskier loans have already defaulted and left the pool; therefore, loans more recently modified have better chances of performing well.

This explanation may have held true in a comparison that included modifications made in 2007 and 2008. When comparing year-to-year changes, for instance, counseling agencies do report changes in the typical client base. “Although we continue to see clients in the low- to middle-income levels, we are starting to see more educated, suburban, married couples as opposed to the traditional single heads of households,” shared a Cincinnati housing counselor. A few counseling agencies reported seeing more rural and older borrowers as well.

However, when we restrict our analysis to the periods just before and after May 2009, we find that at origination, loans in the two periods are not too different from each other. Table 2 shows means and medians of credit scores at origination, loan-to-value ratios, and origination amounts. In the pre-HAMP period, median FICO scores were slightly lower, but on average there is virtually no difference in the sample. Origination amounts are similar as well. Loan-to-value ratios, however, are higher in the post-HAMP period, although there is no way of knowing how many of these loans had a second lien loan attached to the mortgage. When looking at types of loans being modified, we find that FHA loans are much more likely to include a payment decrease in the post-HAMP period than in the pre-HAMP period (77% and 40%, respectively).⁷ Conventional loans are also more likely to involve a payment decrease in post-HAMP than in the pre-HAMP period (66% and 76%, respectively), but the difference is not as large.

1. SOURCE: Calculations based on loan modification flagging algorithm on LPS data. Algorithm provided by researchers at the Federal Reserve Banks of Atlanta and Boston.

Hypothesis 3: Loan modifications have become more sustainable.

Could the improved performance of modified loans be due to changes in the way loans are modified? To find out, we took a look at changes in loan modifications by type over time. Figure 4 shows that non-concessionary modifications—those that capitalized late fees and thus increased the principal balance without any other changes (reducing monthly payments, lowering interest rates or changing terms)—have declined considerably. This kind of modification may be suitable for borrowers who experience a short-term disruption in their ability to make otherwise-affordable monthly payments. But a non-concessionary loan modification is not meant to assist borrowers who could not afford increasing loan payments in the long run due to loan terms and resets, and for whom decreasing home prices leave them with little chance of selling the home. Servicers' realization that this type of modification is not sustainable under the circumstances of this crisis may have contributed to the decreased use of this option. The decrease in non-concessionary modifications takes place gradually throughout the period, with most of this decrease occurring in the pre-HAMP period, before the second quarter of 2009.

In our examination of changes in the types of modifications, we also see that loan modifications involving term changes and fixed-interest-rate reductions have increased, while modifications that reduce the principal balance continue to be almost non-existent (see figure 5). However, as with non-concessionary modifications, those concessionary modifications that increase the principal balance without making any additional changes to the loan terms have reduced dramatically. Modifications with increases in the principal balance possibly result from capitalizing late fees and missed payments. Increases range from 3 to 7 percent of the remaining balance at the time of modification.

We further look into the possibility that differences in the loan modification process may have decreased the probability of re-default. For this, we perform a basic survival analysis (Cox regression) on modified loans. Loans enter the process at modification and exit if they fail—that is, once they hit 60 days of delinquency post-modification—or if they are paid off, liquidated, or transferred. Explanatory variables include FICO score and loan-to-value ratio at origination; monthly payments; whether the loan is privately securitized or government- or portfolio-held; and whether or not the modification reduces the monthly payment.

The regression analysis is performed for the overall data set, and then for the smaller combined pre-HAMP and post-HAMP time periods. Estimates for the overall sample only are presented in table 3. Our results confirm that loan modifications with payment decreases perform significantly better than those that either maintain or increase the monthly payment. Hazard ratios are a measure of the relative likelihood of re-default for modified loans according to their characteristics. For instance, the hazard ratio corresponding to payment decrease modifications is 0.700 in the overall period model (and the reduced period as well). This means that re-default chances are about 30 percent (100*[0.70-1] =-30) lower for concessionary modifications, holding all other variables constant. And this feature—a reduction of monthly payment—is the one that most influences re-default probabilities.

Other variables matter as well, as expected, but have less effect on the chances of re-default. Who services or holds the loan seems to matter. The hazard ratio for the privately securitized dummy is 1.13, meaning that privately securitized delinquent loans that are modified are about 13 percent ((100*[1.13-1] =13) more likely to re-default than portfolio loans.⁸ As one might expect, lower FICO scores and larger monthly payments pre-modification increase the chances of re-default. Loan-to-value ratios, on the other hand, do not significantly influence the survival rates in the sample.

1. Dependent variable: Probability of re-default
2. No. subjects = 20 824
3. No. observations = 154 343
4. Std. err. adjusted for location (zip-code) clusters
5. * Variables are standardized
6. SOURCE: Calculations based on loan modification flagging algorithm on LPS data. Algorithm provided by researchers at the Federal Reserve Banks of Atlanta and Boston.

Conclusions

While our examination shows that relatively few delinquent loans in Ohio are being modified, recent modifications appear to be more successful than past ones. Loans modified within the 10 months following HAMP (from May 2009 onward) are performing better than those that were modified within a year of HAMP's launch. This recent uptick in performance of modified loans can be attributed in part to a steady move toward more concessionary modifications and away from modifications that did not take affordability into account.

Still, the small percentage of seriously delinquent loans being modified in Ohio, coupled with declining self-recovery rates, suggests that current policy efforts have not been able to effectively cope with the foreclosure crisis to date. The administration and some large servicers have recently placed more emphasis on programs directed to borrowers for whom a modification is not viable. These programs range from facilitating short sales or deed-for-lease actions to allowing former owners to stay in the homes as renters. But unlike loan modification programs, these alternatives are relatively new and less familiar to borrowers and counselors. According to our survey, most counselors report having heard about them, although few had used them as of May 2010.⁹This report's findings highlight the need to pay closer attention to programs that offer alternatives to loan modifications in the months to come. Periodic reports on HAFA, similar to those that are produced for HAMP, ought to provide feedback for better policy on loss mitigation strategies and practices.