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B&C Loans Withstand Pressure

The unemployment rate has continued to edge up, but so far the weak job market has not done much damage to subprime mortgage portfolios.

Data from several sources show that subprime delinquency rates are holding steady or improving.

For instance, the Mortgage Bankers Association of America, which recently began tracking the delinquency rates for servicers with predominantly subprime loan portfolios, shows a strong improvement in overall performance in the first quarter of this year.

While the MBA cautions that its data may not be representative of the entire subprime mortgage universe, chief economist Doug Duncan recently told MSN that he believes the improvement is real.

The MBA data show a sharp decline in delinquencies among lenders that specialize in servicing subprime mortgage loans. The MBA found that the overall delinquency rate on subprime portfolios was 12.4% in the first quarter, a drop of 89 basis points from a year earlier.

While the MBA cautions that its subprime database, consisting of 1.4 million loans, may not be representative of the entire industry, Mr. Duncan said the improvement probably reflects a real trend in that sector. He said servicers have developed expertise in managing subprime loans.

"In the subprime sector, intervention is earlier and more serious. There's a more aggressive approach," Mr. Duncan told MSN.

Government-insured loans remain a weak spot, with delinquencies and foreclosures rising for loans backed by the Federal Housing Administration and Veterans Affairs Administration. In the first quarter, 11.65% of FHA-insured loans were delinquent and 7.89% of VA-guaranteed loans were delinquent.

Mr. Duncan said higher delinquencies in the government-backed loan sector reflect "adverse selection," as refinancing and home price growth allows many homeowners to refinance out of government loans and into more attractively priced conventional loans. In addition, automated underwriting is allowing conventional lenders to serve customers who previously may have relied on the FHA or VA to obtain home loans.

Mr. Duncan said he does not believe there is any evidence of a national home price "bubble" that could burst. While the rate of appreciation has slowed down, he believes home equity continues to rise for most homeowners.

"With inflation also declining, these are on a real basis still healthy house price gains."

Moreover, he said concern about rising consumer debt may be overstated, because rising homeownership rates mean that many households are replacing an implicit rent burden with mortgage debt, pushing up the consumer debt numbers.

"Concerns about consumers overleveraging seem overblown to us," he said.

Data compiled by Moody's Investors Service indicate that rising unemployment so far has had "minimal impact" on subprime performance, with delinquency rates and losses holding steady. In fact, subprime home equity loans issued as securities in 2002, after 11 months of seasoning, are performing better than other recent vintages. Just under 5% of the loans by original balance were 60 days or more past due, Moody's said, down sharply from pools issued in the second half of 2000, when more than 8% were seriously delinquent after 11 months. Improved borrower credit quality in late 2001 and all of 2002 has helped offset the impact of higher unemployment on the subprime sector, according to Moody's.

However, Moody's warned that rising interest rates could reverse that trend on new loans, if competition for a dwindling pool of business forces loan originators to relax underwriting standards going forward.

Julia Tung, a Moody's analyst who authored a recent report on the subprime home equity sector, said that is just what appears to have happened in 2000, a recent peak in the interest rate cycle. Analysts believe that subprime lenders loosened standards to try to maintain business volume during that year.

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