Tag Archives: FHA the next bailout?

FHA going down?

BusinessInsider, which does have a tendency to panic, nonetheless has a good article on the dire prospects of the FHA and the mortgages it’s guaranteeing. The FHA admits that up to a quarter (!) of its loans made in 2007 and 2008 will default but claims that its solvency is assured because the loans they made beginning in 2009 were to much more creditworthy borrowers. BI is skeptical, as am I.

That one thing is the FHA’s assertion that the loans in backed in 2009 are much, much better than the loans it was back in 2007 and 2008. That seems highly unlikely.

In the first place, the FHA’s book of business expanded at a pace that is truly breath-taking. Although we don’t have the final numbers yet, we know the FHA probably insured more than 2 million single-family mortgages in fiscal year 2009, compared with 1.2 million in fiscal year 2008, and 639,000 in fiscal year 2007. Meanwhile, the number of FHA staff grew by just 80 people last year.Do you think that the FHA was really able to properly monitor for fraud and risk as the portfolio grew at that pace?

The FHA also thinks that a good part of the growth last year was among higher quality buyers. That is partly true—the average credit score is up to 690 from 630. But credit scores have proven an unreliable indicator for mortgage default rates. While people with higher credit scores are less likely to default than those with lower credit, that is a relative measure. It tells us nothing about the absolute likelihood of default.

In other words, the FHA is betting on a housing recovery. If mortgage foreclosures spike, the FHA could discover that people with a credit score of 690 in 2009 default at rates higher than people who had a credit score of 630 in 2008. That’s what it means to say that credit score is a relative predictor instead of an absolute.

There is good reason to doubt FHA’s assertion about the quality of its borrowers. Many of the borrowers were first time home buyers with brief (and therefore less reliable) credit histories. At one point last year, around 50% of all first time home buyers were having their loans backed by the FHA. Many of those buyers were able to purchase their home with almost no down payment—thanks to the home buyer tax credit.

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FHA and credit standards

The FHA has become, in effect, the lender of last resort for many would-be home buyers and therein lies a problem.

When the housing market was booming, subprime lenders drew away many of the borrowers who traditionally used FHA-backed loans by offering even more favorable terms. Unlike the FHA, subprime lenders didn’t require borrowers to document their incomes. The FHA saw its share of the mortgage market fall to 2% in 2006.

But when the subprime market collapsed, mortgage brokers began steering borrowers into FHA-backed loans. Politicians and policy makers encouraged the FHA to refinance at-risk borrowers into fixed-rate loans. Suddenly, the FHA had an enormous chunk of the market. Average credit scores of FHA borrowers dropped sharply at first. In last year’s third quarter, the FHA insured 25% of mortgages, according to Inside Mortgage Finance, a trade publication.

“We should not play this large a role,” Mr. Stevens says. “It’s not healthy for the mortgage-finance system, it’s not healthy for the economy, and it’s certainly not sustainable for the long term.”

[snip]

But there are still signs of trouble. At about 30 FHA-approved lenders with at least 1,000 loan originations, more than 12% of loans are in default two years after origination, nearly double the national average at the end of November. Last Tuesday, HUD’s inspector general served subpoenas on 15 of those lenders as part of an examination of the practices of lenders with high default rates.

The percentage of FHA-backed loans that defaulted after borrowers made just one payment—typically an indication of poor underwriting or fraud—has started to fall, but not as fast as needed to avoid future loan losses. FHA-insured mortgages made in 2007 and 2008 are largely responsible for the agency’s precarious position, with default rates approaching 24%.

FHA officials concede that the agency offers today’s easiest underwriting standards.

Mr. Stevens, nevertheless, lashes out at critics who say the FHA is repeating the mistakes of subprime lenders. At a conference in November, Robert Toll, chief executive of luxury-home builder Toll Brothers Inc., referred to the FHA as “the new subprime” and “a definite train wreck” that will soon need a bailout, according to a transcript of his remarks.

Mr. Stevens, in an interview, called the comparison “ludicrous,” and said Mr. Toll has “no clue” about the agency’s finances.

The agency is required by Congress to hold enough capital in reserve to cover 30 years of projected losses. An independent audit said reserves at the end of September exceeded projected losses by just $3.6 billion, about 0.5% of the $685 billion in loans outstanding, down from 3% a year earlier. Congress requires the agency to maintain a 2% capital-reserve ratio.

FHA officials say they have enough cash to cover the current level of losses, and that the agency risks running out of money only if home prices take another big dive. “We’ve learned from recent history that the market is fragile, and we have to plan for the unexpected,” Mr. Donovan, the HUD secretary, said last month.

But some analysts say the agency’s assumptions about home prices and foreclosures are too optimistic.

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More exposure to mortgage debt; yeah, that’s the ticket!

The FHA, guarantor to just about every mortgage being written these days, is busted. You and I might think we had a problem were we in the same situation but this is Chinatown, Jake, so no worries.

Critics say the agency insured too many loans to unqualified borrowers in 2007 and 2008, a position the agency itself now agrees with. Nearly one in five loans it insured in 2007 now fall into the category of “seriously delinquent,” it revealed Tuesday.

The F.H.A. says that it is now insuring loans to more financially secure buyers with highercredit scores. In a sense, the agency is bulking up and giving as many loans as it can to diminish the pool of problem loans. It guaranteed more than $360 billion in mortgages in the last year, four times the amount in 2007.

Critics say this is only increasing the size of the ultimate peril.

“They keep saying they’re going to outrun their problems, but some way, somehow, the taxpayer is going to end up on the hook,” said Edward Pinto, a former executive with the government mortgage giant Fannie Mae.

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Ever hear of the FHA? You will

The Federal Housing Administration has insured mortgages for 75 years but its low limits meant that we didn’t see FHA loans much in Greenwich or other pricey neighborhoods. That changed in the last two years after other lenders quit lending and Congress boosted the loan guarantee ceiling to $750,000. As the result, FHA’s percentage of mortgages in the U.S. went from 3% to 25%, mostly to borrowers who didn’t qualify for loans from lenders who cared about getting their money back. Now there’s a wave of defaults coming and guess who’s going to get the bill? From the Wall Street Journal:

As private lenders sharply curtailed credit when boom turned to bust, the FHA became one of the only places to turn for buyers who couldn’t afford big down payments or who wanted to refinance but had little home equity. The number of loans backed by the agency has soared, and its market share reached 23% in the second quarter, up from less than 3% in 2006, according to Inside Mortgage Finance.

The FHA’s growing role has been cheered by economists, the real-estate industry and members of Congress who felt that it prevented the housing collapse from being worse.

Even as the FHA tightened lending standards moderately last year, Congress allowed the agency to make much larger loans, up to $729,750 in the highest-cost markets. Previous loan limits, at $362,000, had kept the FHA out of more expensive markets, including some of the hardest hit during the housing bubble. In July, California accounted for 13% of the FHA’s mortgages, up from 1.5% in 2006.

Mounting losses have eaten into the FHA’s cash cushion. Federal law says the FHA must maintain, after expected losses, reserves equal to at least 2% of the loans insured by the agency. The ratio last year was around 3%, down from 6.4% in 2007.

FHA officials have refused to comment on whether the reserves would fall below the 2% level, but say that even if that happens, the agency is adequately capitalized.

Some housing analysts believe that deep losses could spur even tighter restrictions. “It absolutely changes the political dynamic once you have to ask taxpayers” for money, said Lisa Marquis Jackson, vice president at John Burns Real Estate Consulting in Irvine, Calif.

Last month, the consultancy wrote in a note that mounting losses could lead to an “imminent pullback” from the FHA, and the firm has been warning investor and home-builder clients: “Be prepared for this to happen in some way, shape or form.”

Members of Congress have voiced concerns over the agency’s reserves. But many may balk at raising new hurdles for borrowers.

 

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