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A Shaky Start to 2009

When the subprime mortgage meltdown started to be felt, many economists predicted that housing markets would stabilize in 2009 and begin to recover in 2010. Now, while most prognosticators are still hoping for that scenario to be realized, many are hedging their bets. An increasing number of experts believe that home values will not stabilize until at least late 2009 and perhaps not until 2010, and that means the mortgage servicing industry will continue to face heightened default pressure even as lenders try to clear real estate-owned off their books from the loans that have already landed in foreclosure.

Already, there are signs that the industry faces more tough sledding in 2009. The widely followed S&P/Case-Shiller home price index showed home values nationally fell 16% from the prior year in the third quarter of 2008. Likewise, Freddie Mac, based on its home-purchase-only data, estimated that home values fell 7.2% nationally during the third quarter from one year earlier. While that is more modest than the Case-Shiller data, it was still the largest quarterly decline in the 39-year history of the Freddie Mac conventional mortgage home price index.

Those continuing declines in home values, economists warn, mean that loans originated in 2008 could perform poorly, as borrowers see the equity from their downpayment erode, even under today's tighter underwriting standards. Moreover, the performance of newly originated loans could deteriorate further if home prices continue to fall in 2009, raising current loan-to-value ratios on young loans.

The industry's recovery hinges on expectations that new loans, made under stronger underwriting rules, will outperform the subprime and prime books of business originated at the peak of the market. But there's no guarantee that today's loans won't add to the problem. Until home prices stabilize, the mortgage market will be hard pressed to latch unto a recovery. Hopefully, that stabilization will come early enough to restore market confidence on newly originated loans, which in turn will help lubricate our rusty capital market apparatus.

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