Problem FHA, VA Loans Get New Life

A fast growing niche in the mortgage securities market is a byproduct of falling interest rates and the high default rate in government-guaranteed loan programs.

According to Moody's Investors Service, loans backed by the Federal Housing Administration and the Department of Veterans Affairs that have been re-purchased from Ginnie Mae pools because of defaults or serious delinquencies are now being re-securitized in record numbers.

Ginnie Mae allows the loan servicer the option of purchasing a delinquent loan out of a Ginnie Mae pool in most cases at par plus accrued interest. The option is designed to give the servicer more flexibility to work with the delinquent borrower.

But falling interest rates have given lenders a huge incentive to repurchase the loans. Declining interest rates allow the lender to acquire a guaranteed loan with an interest rate that is usually substantially above the current market rate.

The loans can then be packaged and resold at an attractive profit.

Warren Kornfeld, a Moody's analyst who has studied this niche, said current rate conditions create "a phenomenal incentive" for lenders to repurchase troubled FHA and VA loans. In many cases, rates have dropped by as much as 250 basis points since the loans were originated.

"It's almost a no-lose situation, given how far rates have dropped," he told NMN.

Under a baseline economic scenario, Moody's estimates that only 15% of loans in "re-performing" transactions will go on to default.

About $20 billion in securities backed by re-performing or nonperforming FHA and VA loans were issued last year, nearly triple the $7 billion volume reported in 2001.

Copyright 2003 Thomson Media Inc. All Rights Reserved.

Next in News ►