Bank Technology News  |  May 2008

By Glen Fest

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From mid-year 2006 to the end of 2007 prices for U.S. homes on the market fell more than 10 percent, according to the Standard & Poor's Case-Shiller National Home Price Index. The California Association of Realtors provided even more apocalyptic news in February: the median price of an existing home there fell 26.2 percent from the year prior.

This spells plenty of gloom for the prospects of an estimated 4.5 million homes currently for sale — and sheer panic for the banks and lenders who had 1.7 million of these in their real-estate owned (REO) portfolios in April, according to national listing firm Foreclosures.com.

For most institutions there is no simple answer whether to offload these on-book properties. Where foreclosures are rampant — California, Florida and Nevada — there's no easily discernible way to price them. As it worsens in markets across the country, the vast majority of banks that cut back or never heavily invested in mortgage collection and REO IT are depending on overwhelmed outsourcers to help them decide whether to dump properties at perhaps a 50 percent loss or worse, or hang on for a market recovery.

Bank by bank, the REO news is anywhere from sickly to critical. Corus Bancshares of Illinois saw its REO properties jump from $8.4 million at the end of 2006 to $37 million by the end of 2007 — mostly the result of a single major condominium development. Wells Fargo has accumulated more than 4,000 California single-family properties in REO. Bank of America had more than 200 California properties for sale on its bank-owned property search site, but its soon-to-be subsidiary Countrywide Financial lists more than 4,000 Golden State foreclosures on its books, in addition to 1,100 in Florida.

Given this, the industry is "scrambling to look at different ways to beat the beast," says Vinod Thomas, evp of operations for the default services unit of LandAmerica Financial, an Irvine, CA-based title firm. "What might have worked in the past when things were relatively sturdy, with low volume, definitely has to be revisited."

"Many large lenders have adopted sophisticated analytical, loan re-pricing and REO-pricing techniques," says Craig Focardi, a research area director at TowerGroup. "But some lenders have been caught with their pants down."

While the good times rolled, many institutions downsized or eliminated processes and staffs for dealing with REOs. Recent spending trends show the mortgage industry invested more than two-thirds of total IT spend on loan origination versus loan servicing, according to Focardi.

That market is now upside down. Updated TowerGroup research shows that mortgage firms and banks will be upping collections/REO IT spending to $400 million this year, and will exceed $500 million annually by 2011. Spending for outsourcing alone will go up to $178 million in three years, which is nearly what all mortgage collections IT spending was five years ago, about $211 million.

With short staffs and few in-house technology choices at hand, many banks are leaning on the default services of major title vendors like LandAmerica, First American Corp. and Fidelity National Information Services. Those services have been ramping up on many pre-foreclosure tools for loan modifications, early default notifications and analytics to identify salvageable loans.

For loans that can't be saved, figuring out the actual value of a foreclosed property is the first step for most institutions. Easier said than done. Most property assessments from the origination period are worthless to individual foreclosure-listing shoppers, or the burgeoning private investment funds poised to snap up REO properties for a fraction of their original worth. "Many [banks] do a market analysis, usually with a broker price opinion, and also use statistical automation valuation models [AVMs] to set the price," says Focardi. "Then they'll evaluate what their holding costs are for the property to maintain it. Paying the property taxes, cutting the grass, and getting it cleaned up first."

Banks, particularly national banks that are too dispersed to handle local market analysis in-house, are signing up with automated assessment and document management firms to deliver this data. Zaio.com, a Canadian online appraiser working with 500 lenders in North America, provides a computer-generated value from almost any market that is also accompanied by photos of the property. (It's good to know whether the evicted owner of that new ranch villa took the plumbing with him). Most notably for investors and home buyers, it's an independent assessment. In addition, a fast-growing market of REO brokers and agents are hooking up with banks to help liquidate the inventory.

Even with all this due diligence going on, there are rumblings that banks are still afraid of putting most foreclosed homes on the market since they'd lose too much, and perhaps harm their standard mortgage business. "I've heard a few of the larger servicers are starting to look at property management as an option," says LandAmerica's Thomas.

But whether it's a fire sale at auction or a settling into a holding pattern for REOs, most banks must work under the restrictions in their servicer agreements with secondary investors, including Fannie Mae and Freddie Mac. These investment pools dictate to what extent banks may or may not market the property — and can require extra due diligence if banks are trying to arrange property management and preservation services. "If they just have the loan, they can do whatever the heck they want, versus if they sold it to an investor," says Adam Schneider, a principal with Deloitte Consulting in New York.

Regardless of the valuation issues at hand, banks will continue to struggle with the sell-or-hold question because they don't know how bad future REO inventory levels will get, with all the related extraneous costs of maintenance, marketing and taxes.

The decision on whether to sell or hold properties is about more than appeasing near-term shareholder concerns — important as that might be. Schneider says hard-hit cities like Buffalo, NY, are getting tough with financial institutions to ensure that taxes on REO homes get paid — by somebody. "That's going to keep the banks selling the property as fast as they can," says Schneider.

Meanwhile, the bottom to the mortgage crisis remains elusive. The number of homes in the foreclosure process went up 20 percent in March, according to RealtyTrack. This continuing spiral will likely start the movement of these homes into large-scale portfolio sales to private equity, Schneider says. "Unfortunately, when you talk about bulk discounted sales, people waiting on the sidelines to buy are only willing to pay 10 to 30 cents on the dollar of value," says Thomas.

"But there's also the anticipated net realized loss of the sale from the traditional methods … [when] you're willing to accept this market is not improving. So there's also the continued risk of following the traditional path."

(c) 2008 Bank Technology News and SourceMedia, Inc. All Rights Reserved.

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