To date, the slowing economy has taken only a modest toll on the nearly $5.3 trillion in outstanding mortgage debt. Delinquencies on prime mortgage loans have edged up over the past year, but the starting point for this rise was a three-decade low, recorded early in 2000.

The picture is not so reassuring for "nonconforming" mortgage loans, which do not meet the credit quality standards of the government-sponsored secondary market agencies. On subprime loans — as well as on loans backed by the government — delinquencies and defaults started rising even before the economy cooled. And the problems afflicting those segments could spread. If the economy continues to fall, problems could become serious.

Rising home values have erased a lot of underwriting mistakes. If home prices take a fall, homeowners could find themselves "under water," with mortgage debt exceeding the value of their homes. That, inevitably, leads to a rise in loan defaults.

Lenders, themselves, have contributed to the risk they now face. During the long economic expansion, underwriting loosened considerably. Competition for business and efforts to expand homeownership led the mortgage industry to approve many borrowers whose finances, credit history or collateral would not have made the grade in the past. New, riskier types of loans had been introduced to the market as well. The result: a record national homeownership rate of 67%, and a new class of borrowers who have less to cushion themselves against hard times than did their predecessors.

Steven Hornburg, executive director of the Research Institute for Housing America in Arlington, VA, said there is uneasiness within the industry about the impact a slowing economy will have on "highly leveraged" home loans. He worries that homeowners from the "economic fringe," who may rely on a second or third job to make mortgage payments, will be hit hardest as the economy weakens. In 2000, one-sixth of all borrowers made less than a 5% downpayment on their home loan.

"A lot of these new affordable mortgage products haven't really been stress-tested by an economic downturn," Mr. Hornburg said.

Last fall, perhaps because of rising energy costs, more than 10% of Federal Housing Administration-backed loans were delinquent.

Overall, 4.37% of mortgage borrowers were at least one payment late at the end of the first quarter, according to the Mortgage Bankers Association. That's a slight improvement from the end of last year, but the overall delinquency rate was still 63 basis points higher than it had been a year earlier. MBA chief economist Douglas Duncan says the trend may still be upward. "There's no horror story here, but it's a trend worth watching," he says.

He adds that the risk inherent in the outstanding mortgage universe has increased in recent years, noting that high loan-to-value loans and subprime lending virtually did not exist before the last recession.

"Now you have more actors participating in the management of that risk than you did 10 years ago," he says.

Not everyone is alarmed, particularly when it comes to the conventional, conforming mortgage business. Loan-to-value ratios have declined in recent years for new loans, according to data collected by the Federal Housing Finance Board. As of May, the average loan-to-price ratio was 76.1%, down from just over 80% in the mid-1990s, according to the FHFB.

Moreover, Fannie Mae chief economist David Berson points out that rising home values have had an impact on loan-to-value ratios as well.

"If you did a mark-to-market on existing loans, chances are that LTVs have gone down substantially," Berson says.

He points out that the amount of equity an owner has in his or her home is not the only factor affecting the risk of default and loss, but the trend toward higher downpayments is comforting for people with a stake in conventional mortgage loans.

That may provide little relief for investors in the subprime sector, which accounts for something less than 10% of all outstanding mortgages.

The small but volatile world of subprime lending has already seen problems rising fast. The Mortgage Information Corp., San Francisco, reported that in September of last year, 5.53% of subprime credit quality home loans were at least 90 days past due or in foreclosure, a 12-month high. Sheila Meagher of the MIC said more recent data shows a continuation of that trend. In fact, subprime delinquencies "have been kind of going through the roof," she said.

Moreover, loans originated in the year 2000 are experiencing a high level of early delinquency, she said.

"When you see a newly originated year start to go south, it raises some eyebrows," Meagher said.

Moreover, she said flattening delinquency rates nationally sometimes mask more worrisome local trends. For instance, delinquencies and foreclosure rates have been rising in cities like Atlanta, Detroit and Chicago, offsetting improvement in other areas that have kept the default rate level nationally.

Moody's Investors Service reports that "serious delinquencies" in pools of subprime home equity loans reached a record level in the fourth quarter of last year, accounting for 9.24% of outstanding debt in those pools. That was a 20% increase from just six months earlier.

Moody's analyst Henry Engelken says that increase in serious delinquencies — borrowers at least 60 days late in the Moody's survey — will probably translate into higher charge-offs later this year.

However, he dismisses concern about the rise, saying it is "almost entirely based on the normal effect of seasoning as loans in the pool enter into their peak delinquency years."

All the same, Moody's acknowledged that its quarterly home equity index shows some signs of weaker credit quality among subprime mortgage loans, which account for 80% of the home equity index.

The big danger facing both the subprime and prime sectors of the mortgage industry is the prospect that the economy will falter into a recession. Layoffs have increased, but even with unemployment at 4.5%, the jobless rate remains low by the standards of the 1980s. Home price appreciation has slowed, but there has been no widespread area of depreciation yet.

While average LTV ratios have been falling on new home purchases, some consumers are adding to their mortgage debt. Freddie Mac reports that this year more than half of people who have refinanced have taken "cash out" of the transaction. That means they tapped into their home equity, replacing their old loan with a larger one even as they reduced the interest rate. Last year, when few homeowners could lower their interest rates by refinancing, Freddie Mac reported that about 80% of refinancing transactions were "cash out" deals, often used to consolidate debt into a mortgage loan.

The Federal Reserve Board has reported that in the wake of the nation's long economic expansion, consumer debt stands at a record level. New loan products and underwriting exceptions have helped push the nation's homeownership rate to a record level, but those home loan trends of the last 10 years have never been tested in a weak economy. Has risk management been re-engineered to contain the new exposure created by subprime lending, high LTV loans and underwriting exceptions? Only time will tell.

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