Principal Reductions Grow

by 03 Apr 2012
( -- There were several interesting insights published in last week’s report from the Office of the Comptroller of the Currency. In particular, the share of loan modifications that incorporate principle reduction has grown steadily over the last year. Typically an investor, bank or agency will choose a combination of changes to a loan in an attempt to ease the burden on the homeowner and improve the likelihood of payment. Those changes include, in order, capitalizing late fees or charges into the principle, a reduction in the mortgage rate, a rate freeze, a term extension, deferring the principle, and lastly a reduction of principle. In the 4th quarter of 2011, 94.5% of modifications were some combination of these options.

Of note is the recent increase in the share of loans that include a reduction in principle, 9.0% of modifications in the 4th quarter of 2011, up from 2.9% in the 4th quarter of 2010. Also on the rise were principle deferrals, which jumped from 9.5% to 25.9% over this same period and rate freezes which rose from 2.4% to 6.7%. Capitalizations dipped in the 3rd quarter of 2011, but were back in line with recent history in the 4th quarter, while term extensions fell for the 3rd consecutive quarter of 2011 and from a year earlier. The expansion of interest in principle deferral and principle reduction at a time when short sales have risen steadily suggests that holders of mortgage debt have become more aggressive in their attempts at foreclosure prevention.  Forecasts for foreclosures in 2012 and 2013 have been high, which might explain the increase in interest in the more extreme options.  However, bottoming prices and declining re-default rates might also explain the increase in principle reductions, both of which increase the likelihood of payment for a modified mortgage.   Also of interest in the report are the means in which different entities choose to modify loans. Fannie Mae, Freddie Mac, and the FHA have offered few if any principle reductions, favoring capitalization, term extensions, rate reductions, and to a small extent principle deferrals. The FHA has exhibited a similar pattern, but very few principle deferrals.  However, banks (portfolio) and private investors have favored rate reductions, principle reductions and principle deferrals to a greater extent than the FHA and GSEs. The difference in appetite for term extensions between investors and banks might reflect difficulty in pooling loans with non-standard maturities.

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