Risk Edges Up For Nonprime Home Loans

The risk that newly originated, nonprime credit-quality mortgage loans will end up in default is pretty much steady for the winter of 2005, according to a risk index published by University Financial Associates here.

But the index has risen by 25% since 2003, and more increases in default risk may be seen in future quarters as home price appreciation slows down and interest rates rise, as many economists are predicting.

For the winter quarter of 2005, the index stood at 96, up just one point from the 95 reading for the fall of 2004. A reading of 100 indicates that the risk of default on a newly originated, constant-quality loan would be average for the decade of the 1990s. Higher scores indicate a higher level of risk, while lower scores indicate a lower risk level.

Dennis Capozza, professor of finance at the University of Michigan and a principal in UFA, said that while house price appreciation remains above trend, the prospects of future increases are slowing.

"You have got interest rates starting to creep up and the housing collateral is getting a little more risky at this point," Mr. Capozza said.

Under current economic conditions, nonprime lenders should expect defaults on loans currently being originated to be significantly higher than the average of loans originated from 1998 to 2003 but 4% lower than the average rate on mortgages originated during the 1990s, UFA said.

Each quarter's change reflects the life-of-loan impact of mortgage rates as well as revisions to the housing data, including continued strength in the collateral markets.

The constant-quality loan index measures the risk for a loan with the same borrower, loan and collateral characteristics, and therefore only reflects the changes in current and expected future economic conditions, which are less favorable than in prior years, according to UFA.

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