S&P Cautions About Reset Freezes

Loan modification plans that would simply freeze interest rates on some U.S. subprime mortgage loans may impair the ratings of certain residential mortgage-backed securities, according to Standard & Poor's.In a report outlining its views on a rate freeze, S&P said it supports "appropriate loss mitigation strategies" to prevent foreclosures, but that some loan modification proposals may have negative effects. "By extending the initial interest rate that homeowners paid during the fixed-rate period of their hybrid ARM loan terms, the potential for payment shock may be mitigated, thereby potentially reducing the risk of default," S&P said. "However, there may be a corresponding reduction in excess spread that was initially incorporated into our ratings analysis.... [which] may offset the benefits of lower defaults, resulting in diminished investor protection." Loan modifications may also discourage investors from participating in the first-lien subprime securitization market by reducing the payments they receive, S&P said. "The consequences of declining investor participation include reduced capital and liquidity available for homeowners and lenders, which may negatively affect home ownership rates and borrowing opportunities to creditworthy borrowers," S&P said. The rating agency can be found online at http://www.standardandpoors.com.