Hefty Cleaning Bill
A senior economist at First American CoreLogic Inc. has estimated that it would cost $858 billion to extinguish the negative equity of all underwater homeowners and give them a 5% stake in their homes.
Several analysts say one reason the Treasury Department pledged unlimited support to Fannie Mae and Freddie Mac last week is that the Obama Administration is planning to expand the Home Affordable Modification Program to allow servicers to reduce borrowers' principal balances. Mortgage experts say borrowers who get this type of modifications are less likely to redefault. That's particularly true for borrowers with no equity or even negative equity, who have little incentive to stay in their homes.
But the price is steep.
Nearly 10.7 million borrowers, or 23% of the residential mortgage market, owed more on their mortgages at Sept. 30 than their homes were worth.
Sam Khater, a senior economist with the unit of First American Corp. of Santa Ana, Calif., has estimated that the average value of mortgage debt for homes with negative equity was $280,000 in the third quarter. The average underwater borrower owed $69,700 more on her property than it was worth.
It would take $745 billion — more than the $700 billion the Treasury is spending to bail out the banking system throught the Troubled Asset Relief Program — merely to extinguish borrowers' negative equity and give them a 100% loan-to-value ratio, Khater said.
Default managers are becoming increasingly worried about strategic defaults, in which borrowers who are current on their mortgage and have the ability to pay nevertheless decide to stop paying in order to get a loan modification.
George Schwartz, an executive vice president and division president of default services at ServiceLink, a Pittsburgh unit of Fidelity National Financial Inc. of Jacksonville, Fla., said strategic defaults are "a much larger number than most people think," because there is no longer a stigma associated with foreclosure.
"There are many, many people that are going into default for the purpose of trying to get a modification and they flat-out don't need it," Schwartz said in a recent interview.
He likened strategic defaulters to investors seeking reimbursement for stock market losses. "If you made an investment that didn't pay out, you wouldn't expect that a bank would just write it off and make you whole again."
Schwartz, a former managing director at Bank of America Corp., is also becoming increasingly concerned about the "shadow inventory" of bank-owned homes that have not yet been listed for sale and are stuck in limbo as borrowers seek modifications under Hamp.
One reason the program has not worked well is that servicers put millions of defaulted borrowers into trial modifications without getting any financial information from them, Schwartz said. "Now they're collecting the data and seeing that borrowers don't qualify based on the rules they set up."
These properties will eventually end up on the market. A "number of real estate-owned properties have dried up across the country because they're just not coming out of the foreclosure process," Schwartz said. "They are sitting in limbo with servicers waiting to see what else Treasury says they have to do."
First American CoreLogic has estimated that 1.7 million homes make up the shadow inventory.
"Everybody thinks there's a dam ready to break and we're all wondering when it's going to happen and how long we can carry staff waiting for it to happen," Schwartz said. "We're all waiting for the bubble to burst."
"The timing of this executive order giving Fannie and Freddie a blank check is no coincidence." It was designed "to prevent the general public from taking note."
— Rep. Spencer Bachus of Alabama, the ranking Republican on the House Financial Services Committee, quoted in The Wall Street Journal about the Treasury's Christmas Eve announcement that it was lifting caps that limited the amount of available capital to the companies to $200 billion each.