Barclays: Pace of Modifications Slows Down
To everyone's relief multiple data sources are reassuring the public that loan modifications are working, that more or less they are slowing down the pace of defaluts and foreclosures. As to the extent servicers will be able to keep up with the needed pace of modifications that is not so easy to predict. And one reason for that is purely procedural. Barclays Capital reports that overall modification activity will moderate over the next few months, as servicers prepare the system to handle new Home Affordable Modification Program processes. While servicers implement the new HAMP waterfall, modifications "will remain a drag on default rates," analysts said.
Barclays' June Mortgage Credit Tracker finds there is "a measurable slowdown" in modification activity in subprime and alt-A sectors. For example, in line with expectations monthly subprime modification rates fell 0.3% to 0.8%.
It might take a few months before modifications increase again, analysts said, mainly because "servicers are running out of HAMP-eligible delinquent loans" due to the inevitable time needed "to set up the new waterfall."
In the case of the so far more aggressive servicers, such as Ocwen, Option One and Nationstar, they have slowed the pace of modifications because a bigger portion of their trial mods already has been converted into permanent.
Given the lack of a new trial mod supply, the conversion speeds of these servicers are expected to slow, starting a trend that will continue going forward.
Signs of improvement are seen in the redefault rate for modifications conducted in the second half of 2009 since eight months later about 33% of loans modified in the third quarter of 2009 have relapsed into delinquency, compared with 50% for loans modified toward the end of 2008.
And the two main reasons are the trial period momentum and reductions in rates and payments.
While the trial period imposed on HAMP-modified loans has helped by allowing servicers to weed out early defaulters, analysts say, another reason is payment reductions, which is the type of workout now offered to a larger number of borrowers. Over time payment reduction modifications have also contributed to lower DTIs and better redefault performance.
Close to 90% of all modifications across sectors were rate reduction modifications, with the exception of option ARMs. Up to 30% to 40% of all modifications for option ARMs were based on principal forbearance. Barclays said these types of workouts are bound to catch on later this year. The new HAMP waterfall is expected to affect the share of debt forbearance modifications, which may increase in the late summer and early fall.
Current-to-delinquent rolls continue to improve across the nonagency sectors with subprime rolls declining another 20-30 bps for later vintages "despite worse seasonals." But analysts said, "roll rates might remain flat or go up only marginally."
The increase in 30-day to current cure rates last month also reversed, partially due to slower modification activity and weaker seasonal changes, since "most previously delinquent borrowers" probably will default without a modification.
And while, albeit for the short term, the pace of modifications slows down, analysts expect "a temporary increase in defaults due to faster REO liquidations and short sales."
In June foreclosure to REO and REO to liquidation rolls picked up steam with liquidation rates from REO increasing 200 bps in the worst quality subprime sector.
Both 60-day-plus delinquent to foreclosure and foreclosure to REO roll rates declined-again "most likely" because servicers are ramping up their systems for the new HAMP waterfall and ensuring that borrowers are not eligible for a modification before proceeding with foreclosure.
Subprime and alt-A current to delinquent roll rates have improved substantially vs. their peak in December 2008.
Better collateral composition, self-selection among remaining current borrowers, changing macro-economic trends and payment reductions due to modifications are some of the reasons behind this performance improvement.
Analysts expect the prime roll rate performance to start getting better over time driven by a better economy and an improving employment picture more than credit burnout.