Getting Closer to a Home Equity Loss Protection Product?

Millions of homeowners "underwater" and improvements in housing prices have renewed efforts to create a viable insurance product that would protect homeowners from home-equity loss. Is it doable?

A group of Fortune 100 executives that launched Working Equity Inc. and its signature product, Equity Protection, say yes.

Working Equity Inc. says there is a "pressing need" for homeowner loss of wealth protection. Working Equity co-founder Craig Schmeizer argues that home-equity insurance provides homeowners the type of protection available to lenders through private mortgage insurance.

To Steve Curnutte, mortgage broker and founder of mortgagecocktail.com, that is just a marketing argument. "The two are not the same," he said.

If Working Equity and its product are a free market expression of the will to create a solution, he says, then allow for super transparency and see what happens. But it is not "the silver bullet and certainly not a missing link." Mr. Schmeizer admits the concept behind the product is not new. He and his team have done their homework. The option was initially introduced and worked out well in military housing. An early study was done for a program in Oak Park, Ill., back in the 1960s, while in 2002 some municipal studies were conducted in Syracuse, N.Y. "But they were never rolled out. All these products including the one for the military are similarly structured and based on the idea of protecting people from market value declines in their local area."

The idea is very powerful, Mr. Schmeizer says. And that it certainly is, but repeated efforts so far have never resulted in an industry wide accepted product.

Earlier this year EquityLock Financial of Austin, Texas, and Lighthouse Group of Charlotte, N.C., started offering very similar products.

These independent HE insurance providers, including Working Equity, price it at 1% or 3% of the current home value and accept yearly or monthly payments. The main difference is in the reference index. EquityLock and Lighthouse base their potential payouts on the S&P Case-Schiller Index or the Federal Housing Finance Agency House Price Index (OFHEO). The Working Equity product is tied to the First American CoreLogic Home Price Index.

"If it were only a private solution with no governmental backing, if it were not a complete coverage and designed so as to still require homeowners to have some skin in the game, if it were not hidden from view and buried inside of MBS products," Mr. Curnutte says, "then it could be one reasonable solution, among many, to the housing slide and to future stability."

Real estate analyst Danielle Babb agrees equity insurance is not a "missing link" in the mortgage chain, but "may be in the future" when major lenders will offer borrowers discounts in declining market areas on rates if they buy the insurance.

Until now, she adds, the two major players have been EquityLock and Lighthouse Group. In today's market a product that aims to hedge declines in home values can work only in very specific regions and for a specific period of time.

"If unemployment is high in your state or taxes are going up, it might be worth looking into. Home prices change a lot in short term but tend to hold steady in the long term. If you're not moving for a while and have a stable job, I don't think so."

Skeptics find the idea too optimistic, crazy or unlawful. In January 2008 after reviewing a home-equity protection plan proposal, the New York State Insurance Department concluded that the policy would constitute insurance under the New York Insurance Law, "however, it would not constitute permissible financial guaranty insurance" and did not allow it to be written or marketed in New York.

One can only hope those too-good-to-be-true products of the recent past will stay there. Working Equity executives apparently have faith in the cyclical nature of the mortgage market. In fact several housing price indexes indicate home values are close to the bottom - and that makes them optimistic about the future of the product and their resources.

Asked why should the insurance industry and homebuyers find the product even believable, Mr. Schmeizer says, "Because it operates as an insurance business.

"Our reserves, such as the fees and premiums we collect, are maintained in a reserve managed by Merrill Lynch, so it is managed by a third party. We use conservative risk management investment strategies. We utilize equity as a supplemental risk management tool."

Regarding the re-insurance, he says, the firm is using an intermediary. He told this publication Working Equity is in the process of negotiating with five major insurers he would not disclose, who are expected to serve as re-insurers.

"Re-insurance is helpful in the event the market has a significant shock, but the nature of the product does not create risk of that to our business for some years. We do fully manage the primary risk on the product. We actually retain and manage the risk as an insurance company would. We only use re-insurance as a supplement to our ability to support risk."

He also says that some major insurers may back up the product.

Insurance broker and risk management advisor Marsh & McLennan has agreed to contract on the firm's behalf "with various A and A+ carriers to place re-insurance behind the product in the event of a major claim period," he says. "Right now Marsh is in the process of finalizing our re-insurance placements."

Mr. Curnutte is not surprised. Home-equity insurance has a very good chance of getting the support of the major mortgage insurers, he says, because they are hungry for cash.

"The premiums on these plans are purportedly to be paid upfront and in full as a part of the financing contract, and the profits could be enormous once the housing market stabilizes as fewer claims would be made against a premium pool that was generated during a time of fear."

Mr. Schmeizer stresses how the First American index operates in 7,600 ZIP codes, which helps establish the value of the home in an entirely transparent and independent manner. "We have no ability to influence the index. Pricing is risk-based since different ZIP codes may have slightly different pricing."