The Washington Post’s Steven Pearlstein discusses regulatory reform.
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Pearlstein: Senators near an attractive deal on regulatory reform
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The Washington Post’s Steven Pearlstein discusses the jobs bill that is taking shape in Congress.
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Pearlstein: Jobs Bill
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The Washington Post’s Steven Pearlstein discusses the jobs bill that is taking shape in Congress.
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Pearlstein: Stimulus 2.0 acknowledges government’s limitations
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If you have been watching the business or economy sections of newspapers, news or blogs you will have got your fair share of loan modification horror stories. At the same time banks are increasing their capacity for loan modifications and seem to be keeping up with government targets, at least for now. So who is to blame?
Are borrowers complaints valid or simple self pity for a situation banks cannot be blamed for? Or, are banks dragging their feet and ignoring the plight of borrowers despite the government being happy to pay the cost for loan modifications.
The Sun Sentinel reported this week on the plight of Kraig and Ana Weiss. The Weisses first agreed to a loan mofication with Bank of America only to have the bank take the offer off the table. Now Bank of America is moving towards foreclosure even though the Weisses are making their mortgage payments.
The strange thing is that federal reports show that banks are restructuring home loans for troubled borrowers, but stories like that of the Weisses are heard all over the country. Where does blame lay, do banks not care or are they doing the best to deal with bad clients that are struggling with unemployment and a worldwide credit crisis.
Counties like Broward and Palm Beach show how hard things are getting with 14,000 homes in risk of foreclosure in August. However banks and service providers claim to be doing their best to deal with the millions of foreclosures requiring a loan modification.
So far the Treasury Department announced they are on target to provide the projected 4 million loan modifications by 2012 after hitting their first goal of 500,000 trial loan modifications a month early.
However this apparent success might cover the fact that only 16 percent of eligible home loans have been modified so work has only begun. The Congressional Oversight Panel for one does not seem too optimistic of the loan modification program performance. Last week the Panel reported that the federal program may not reach the long term goal and encouraged the Treasury to improve their HAMP program or to create new programs to meet the expected rise in foreclosures due to the rise of unemployment.
This rise of foreclosures is fed by a change in the market since the HAMP program started. At the beginning of the year the big trouble were subprime mortgages with high interest rates and devalued price tags that did not allow borrowers to improve their interest rates. However the rise of unemployment has now caused borrowers that have prime mortgages and that would normally be within their means to be at risk.
This means that loan modifications’ main weapon to make mortgage payments affordable, lower interest rates will not be a significant help for prime mortgages that already enjoy low interest rates.
Loan modifications seem like a pretty simple concept. You can’t pay your mortgage so the government “encourages” your mortgage provider to give you a break. The break can come in the form of lower interest rates, a longer tenure, deferring a part of your loan or even “forgiving” a chunk of your loan (that doesn’t happen all that often).
The key word of the above paragraph is “seems”. The truth is not even close to simple. Banks are businesses and like all businesses, successful ones anyway, they need to know where they are going, what the future will look like in order to decide what decisions to make today.
Investors and business analysts also want to know what the future of business looks like. Mortgage and securities analysts have a difficult job on their hands because the future is so difficult (read impossible) to predict accurately.
Loan modifications depend on how the future looks to analysts because mortgage providers decide what interest rates, conditions and how generous (how much they can afford to call a loss) they are going to be depending on how good or how bad things look.
Analysts look at how big companies prepare themselves for the future as a way of checking their own predictions. How can an analyst see how a big company like a bank or mortgage provider is preparing for the future?
One way is to see how much they are setting aside for bad loans and delinquent payments. If a bank predicts the economic future is looking bleak they will set aside larger amounts of cash in case their customers (borrowers) fail to pay. Of course even this is not as simple as all that. If a company wishes to boost their profit or improve how their accounting looks they can play with these figures.
Nevertheless, alarm bells ring in analysts ears when big companies, like Citigroup, reduce their contingency reserves and they can’t figure out why. This is what happened this week and analysts are still asking why.
Normally when banks stock away less cash to cover for loan losses it can be interpreted as a sign of improving credit conditions, but when analysts looked at the rest of Citigroup’s earnings report there was little if any proof of borrower difficulties easing off. What analysts have noticed is that non-performing loans has gone up by 16%, 7% and in the last quarter by 5% which would indicate an improvement in borrowers’ ability to pay but seems to be more of a reaction to the loan modification effort by the government that is improving underlying credit quality.
So is Citigroup being too optimistic or do they believe that the government’s programs have a chance to control the credit crisis? One thing is for sure in business, time will tell.
Last week’s big news in loan modifications was that HAMP, Obama’s administration’s program to get troubled (i.e. 60 days behind their payments) loans back in line with “aggressive” modifications made its first target of 50,000 trial loans before November. That is what the government hoped anyway.
The big news this week could be that foreclosures seem to be slowing down as well as loan delinquencies fall from peak. That is an interesting way of saying that things aren’t as bad as when they were at their worst. But, hey, when you are in a world credit crisis you have to make the most of good news.
Why are things getting better? Is the Government’s program proving its worth?
You will get a whole lot of opinions on that. Let’s try and hang on to a few important facts to get some perspective on the whole issue.
- A target few thought possible was achieved through sweat, blood and tears.
- Foreclosures are no longer only coming from subprime mortgages that need the help of HAMP to lower interest rates but are increasingly coming from prime mortgages with good interest rates. This is because the current crisis is not only a mortgage interest crisis but a credit crisis. People have over borrowed not only on their homes but on their cars, their credit cards and when they lose their high paying jobs they are in trouble and of course mortgage payments are right at the top of the loans they are trying to pay back.
- Banks are starting to work hard to meet the targets set by the administration. One example is the First Federal Bank of California a subsidiary of FirstFed Financial Corp has modified more than 1.4 billion dollars worth of home mortgages, averting 3,000 mortgages from foreclosure. In fact this relatively small local bank is doing very well when compared to banks nationally. The great results in loan modifications at First Federal Bank of California are strongly linked to good results in other related areas like loan delinquencies which have also declined significantly from previous peak levels. For instance loans that were 30 to 59 days behind payments were 55 percent lower than in January.
How did First Federal Bank of California pull this off?
I don’t know. They will happily say it is there interest in their client’s real needs that allow them to provide realistic modifications to their loans which provides sustainable loan payments for borrowers. What can’t be argued is that this bank is meeting and exceeding government’s expectations.
One of the factors that might be contributing towards this is that smaller banks can modify and fine tune their management faster and more efficiently. Smaller can be better in business and banks have complained about the difficulty of changing the cogs of their corporations to provide fast loan modifications.
What is amazing is that after 6 months we know the government is on target (at least their first target) but we’re not sure if it is aiming for the right target, subprime mortgages.
When HAMP started functioning just a few months ago everybody said it was working too slow that it would never come close to Its ambitious goals. Last Thursday nearly a month before the deadline self imposed by the administration HAMP has enrolled 50,000 troubled home loans for trial loan modifications. Whatever your view on the credit crisis and the angle the Government is dealing with it you have to grant that they have really given this scheme all they have.
After a slow start where few banks were even pretending to try to provide loan modifications and trial loans modifications were trickling few Obama’s Administration got tough on mortgage providers and banks. This was carried out through the friendly diplomacy Obama is becoming famous for and some good old fashioned leaking to the press the dismal figures of the worst service providers at providing loan modifications.
The question now is if the initial success at least in numbers of the loan modification is enough to allow for optimism. Let’s have a brief look at what loan modification programs have done and compare it with what is needed.
An estimated 16 percent of troubled borrowers, which is someone that is 60 days behind in his payments, have been placed into trial modifications. Trial modifications are a three month period where the homeowner is expected to keep up with his payments without a glitch. If the borrower is regular in his payments he can keep the loan modification for the term of the loan with some extra bonuses thrown in. All HAMP loan modifications must provide affordable monthly payments to homeowners. By affordable we mean monthly mortgage payments must be below 31 percent of their monthly income.
HAMP and other loan modification programs were designed to help homeowners locked into subprime mortgages with high interests they couldn’t get out of or modify because the value of their homes had fallen drastically taking away all leverage for a possible change of loan or modification.
That was the situation 6 months ago when loan modification programs were starting. According to economists the issue now is not so much that borrowers are locked in subprime mortgages and are defaulting on their payments. It is prime mortgages that are defaulting and prime borrowers that are becoming delinquent on their payments. The loan modification programs now in place provide little help for borrowers that can’t pay their mortgage payments but have excellent interest rates. The only real aid these programs can afford is if the service providers are willing to defer or forgive some of the principal. The former option leads to balloon payments, not always a great deal for the borrower and the latter is unlikely to say the least.
If this analysis is correct we would be dealing with a set of loan modification programs that might or might not be good at what they were set out to do but are no longer needed or at least the main problems cannot be addressed with them. This is unfortunate considering how many billions of dollars are being thrown at them. A lot of this cash is not even going towards the borrowers which could be seen as a way to inject cash into the economy directly to the families that need it but is paid to corporate banks as compensation for rewiring their business to speed up loan modifications.
Obama’s administration response to this argument is that loan modifications is only one of the ways they are fighting the credit crisis and that it is doing the job is was set out for and is on target to help up to 4 million troubled loans.
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