Tag Archives: mortgage credit

Strip-Downs Are Good

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The Philadelphia Fed has posted a Working Paper, Using Bankruptcy to Reduce Foreclosures: Does Strip-Down Of Mortgages Affect The Supply of Mortgage Credit? The paper’s abstract reads,

We assess the credit market impact of mortgage “strip-down” — reducing the principal of underwater residential mortgages to the current market value of the property for homeowners in Chapter 7 or Chapter 13 bankruptcy. Strip-down of mortgages in bankruptcy was proposed as a means of reducing foreclosures during the recent mortgage crisis but was blocked by lenders. Our goal is to determine whether allowing bankruptcy judges to modify mortgages would have a large adverse impact on new mortgage applicants. Our identification is provided by a series of U.S. Court of Appeals decisions during the late 1980s and early 1990s that introduced mortgage strip-down under both bankruptcy chapters in parts of the U.S., followed by two Supreme Court rulings that abolished it throughout the U.S. We find that the Supreme Court decision to abolish mortgage strip-down under Chapter 13 led to a reduction of 3% in mortgage interest rates and an increase of 1% in mortgage approval rates, while the Supreme Court decision to abolish strip-down under Chapter 7 led to a reduction of 2% in approval rates and no change in interest rates. We also find that markets react less to circuit court decisions than to Supreme Court decisions. Overall, our results suggest that lenders respond to forced renegotiation of contracts in bankruptcy, but their responses are small and not always in the predicted direction. The lack of systematic patterns evident in our results suggests that introducing mortgage strip-down under either bankruptcy chapter would not have strong adverse effects on mortgage loan terms and could be a useful new policy tool to reduce foreclosures when future housing bubbles burst.
This paper seems to cut through some of the hyperbole that surrounds this topic. Its concluding paragraphs indicate how a modest introduction of strip-downs would have only a modest impact on the availability of mortgage credit. It contrasts such a modest step with more far-reaching proposals, such as using eminent domain to take underwater mortgages throughout an entire jurisdiction. The paper seems to argue that the more modest proposal could be acceptable to the lending industry. I am not so sure that that is true, particularly in the current political environment. But it is certainly true that strip-downs could be a useful tool to have when “future housing bubbles burst,” as they most certainly will.

Accurately Measuring Mortgage Availability

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The Urban Institute’s Housing Finance Policy Center has posted a research report, Measuring Mortgage Credit Availability Using Ex-Ante Probability of Default. This report tackles an important subject:

How to strike a balance between credit availability and risk to achieve a sustainable housing market is a much-debated topic today, but these discussions are not grounded in good measurements of credit availability and risk. We address this problem below with a new index that measures credit availability and risk simultaneously

The first section of the paper discusses the limitations of the existing measures. The second section describes our development of the new index, which distills borrower credit profiles, loan products and terms, and macro economic conditions into a measurement of the weighted average probability of default for mortgages originated at a given time. The third section illustrates the value of this measure by empirically exploring the varying risk appetites of the market as a whole, and of market segments, which directly aids evidence-based policymaking on how to open the tight credit box. The final section discusses the limitations of this new index. (1)
The report concludes,
Measuring a concept as complicated and varied as credit access is no easy task. Yet this is an important time to ensure that it is being measured accurately. As we seek to reform the housing finance system, Congress, the housing finance industry, advocacy groups, policymakers, and even the general public need to clearly understand how well the market is providing access to mortgage credit for borrowers. (18)
I say amen to that. There is a slim chance that housing finance reform may be back on the table in Washington, given the midterm election results. We need as much good data we can get in order to structure a system based on solid principles rather than on the views of special interests that typically dominate this debate.
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What Should the 21st Century Mortgage Market Look Like?

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Treasury is requesting Public Input on Development of Responsible Private Label Securities (PLS) Market.  Comments are due on August 8, 2014. The request for information wants input on the following questions:

1. What is the appropriate role for new issue PLS in the current and future housing finance system? What is the appropriate interaction between the guaranteed and non-guaranteed market segments? Are there particular segments of the mortgage market where PLS can or should be most active and competitive in providing a channel for funding mortgage credit?

2. What are the key obstacles to the growth of the PLS market? How would you address these obstacles? What are the existing market failures? What are necessary conditions for securitizers and investors to return at scale?

3. How should new issue PLS support safe and sound market practices?

4. What are the costs and benefits of various methods of investor protection? In particular, please address the costs and benefits of requiring the trustee to have a fiduciary duty to investors or requiring an independent collateral manager to oversee issuances?

5. What is the appropriate or necessary role for private industry participants to address the factors cited in your answer to Question #2? What can private market participants undertake either as part of industry groups or independently?

6. What is the appropriate or necessary role for government in addressing the key factors cited in your answer to Question #2? What actions could government agencies take? Are there actions that require legislation?

7. What are the current pricing characteristics of PLS issuance (both on a standalone basis and relative to other mortgage finance channels)? How might the pricing characteristics change should key challenges be addressed? What is the current and potential demand from investors should key challenges be addressed?

8. Why have we seen strong issuance and investor demand for other types of asset-backed securitizations (e.g., securitizations of commercial real estate, leveraged loans, and auto loans) but not residential mortgages? Do these or other asset classes offer insights that can help inform the development of market practices and standards in the new issue PLS market?

These are all important questions that go way beyond Treasury’s portfolio and touch on those of the FHFA, the FHA and the CFPB to name a few. Nonetheless, it is important that Treasury is framing the issue so broadly because it gets to the 10 Trillion Dollar Question:  Who Should Be Providing Mortgage Credit to American Households?

Some clearly believe that the federal government is the only entity that can do so in a stable way and certainly history is on their side.  Since the Great Depression,when the Home Owners Loan Corporation, the Federal Housing Administration and Fannie Mae were created, the federal government has had a central role in the housing finance market.

Others (including me) believe that private capital can, and should, take a bigger role in the provision of mortgage finance. There is some question as to how much capacity private capital has, given the size of the residential mortgage market (more than ten trillion dollars). But there is no doubt that it can do more than the measly ten percent share or so of new mortgages that it has been originating in recent years.

Treasury should think big here and ask — what do we want our mortgage finance to look like for the next eight or nine decades? Our last system lasted for that long, so our next one might too. The issue cannot be decided by empirical means alone. There is an ideological component to it. I am in favor of a system in which private capital (albeit heavily-regulated private capital) should be put at risk for a large swath of residential mortgages and the taxpayer should only be on the hook for major liquidity crises.

I also favor a significant role for government through the FHA which would still create a market for first-time homebuyers and low- and moderate-income borrowers. But otherwise, we would look to private capital to price risk and fund mortgages to the extent that it can do so.  Round out the system with strong consumer protection regulation from the CFPB, and you have a system that may last through the end of the 21st century.

Comments are due August 8th, so make your views known too!