Mortgage delinquencies have declined by some 110 basis points over the last three years, reaching 4.12% in the first quarter of this year in tandem with interest rates, according to a survey by the Mortgage Bankers Association. But David Lereah. the group's chief economist, believes the improvement may be short-lived, and for a wide variety of reasons. American Banker recently asked him for details about his expectations.

Q.: Are delinquencies about to get worse?

LEREAH: Not right away. On balance, today's portfolios are dominated by unseasoned, relatively low-rate loans, a favorable mix for the delinquency situation. But over the next several years, a lot of developments could change the picture.

Q.: For example?

LEREAH: Borrowers may have to cope with deteriorating economic conditions. With forecasts of a modest slowing of economic activity and a modest rise in interest rates during the next 12 months, borrowers' abilities to meet their mortgage payments will be tested.

Q.: How about business trends?

LEREAH: A number of market developments worth mentioning could impair the quality of servicing portfolios. Lenders are casing credit standards to lure borrowers. As evidence, loan-to-value ratios on conventional fixed-rate mortgages have risen steadily since 1992. Higher LTVs are associated with higher risks of default, probably because the homeowner's equity stake may not be large enough to compel the owner to stay current.

A recent [Department of Housing and Urban Development] ... survey found that the share of new mortgages with LTV ratios above 80% reached a 10-year high of 33% in the first quarter.

Further, lenders are placing a greater emphasis on serving low- and moderate-income and minority borrowers in an effort to comply with fair-lending policies. To the extent that credit standards are eased to do this, lenders could be taking on additional business risks.

Q.: How about Federal Housing Administration loans?

LEREAH: Recent changes in the underwriting and closing process for FHA loans have led to a gain in the FHA's market share. If this gain is sustained, this may result in higher problem-loan rates. Because of the way FHA and [Veterans Administration] ... loans are structured and the borrowers they serve, delinquency and foreclosure rates are higher than for conventional loans.

Q.: How about the longer term?

LEREAH: During the last three years, about 80% of the industry's $3 trillion of loans in servicing portfolios were replaced with relatively new, low-rate mortgages. About $1.1 trillion went from high-rate to low-rate loans. These new mortgages aren't yet ready to experience payment problems. However, as these young mortgages become seasoned, delinquency problems will surface.

Q.: Anything else?

LEREAH: Sure. Home price appreciation, divorce rates, changes in personal wealth, and differing regional economic conditions, and other factors can affect borrowers' abilities to make payments. Unfortunately, we believe the negatives will outweigh the positives and delinquency rates will likely drift upward in time.

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