Despite collective home equity losses of $1.2 trillion, the vast majority of underwater homeowners are committed to stay current, suggesting strategic default increases may occur only if a number of predictable factors come to play.
According to Zillow, of the 15.7 million U.S. homeowners who were underwater during the first quarter of this year 90% were current and continue to pay their mortgage on time.
Only 10.1 % of all underwater homeowners were over 90 days delinquent.
Zillow’s chief economist Stan Humphries maintains, “Negative equity remains only a paper loss for the vast majority of underwater homeowners."
His conclusion: If these homeowners continue to pay down their principal while home values slowly increase, “they will surface again.”
If that case scenario holds true borrowers with negative equity would not have the incentive to stop paying their mortgage.
Arguments supporting slow but consistent improvements include an increase of rising home values in the latter part of the first quarter and a slower pace of foreclosures. Plus, nearly 40% of underwater homeowners “are not deeply underwater” as they lost only 1% to 20% of their equity and an additional 21% lost 21% to 40%.
Strategic default risk is real as much as it is highly subjective and emotional for both the borrowers and their mortgage banks.
An online Experian survey of mortgage professionals found that based on what they hear in the marketplace 36% believe strategic defaulters “continue to have a sizable role in mortgage portfolios.”
Another 29% stated they actually see it first hand in their business.
Only 9% think homeowners who default on a mortgage due to negative equity even though they have the ability to pay “seem to be less of a concern today.” And that is a small percentage, says John Straka, senior business consultant, Experian Global Consulting Practice.
The rest of the survey participants either claimed they have not seen any impact in their business, 9%, or were unsure, 17%.
Strategic default data for the fourth quarter of 2011 by VantageScore show that overall nearly 205 of all defaults are strategic. The percentage creeps to about one-third among borrowers with high credit scores.
Straka finds that one of the most challenging issues when it comes to detecting and measuring strategic default and strategic default risk is “imperfect measurement through credit interference.”
There are false positive perceptions such as the belief that a distressed borrower stops paying only the mortgage since it is the largest obligation and underwater. Similarly, there are false negative perceptions such as the belief a strategic defaulter is gaming the servicer and the mortgage system by falsely claiming financial hardship.
Meanwhile, servicers would fail to measure a borrower’s capacity to pay, do not assess the effect of the negative equity, or do not recognize that a borrower’s situation and their classification “can change in any given month.”
The balance between facts and perception is as shaky as the housing market recovery.
Zillow reports that by the end of the first quarter 2.4 million, or 4.7% of all homeowners with mortgages, owe more than double of what their home is worth today.
Local differences also matter. In Las Vegas nearly 90,000 homeowners are underwater. They represent 26.8% of the homeowners who have lost half of half of their home equity. At 66.9% of all homeowners with mortgages underwater Nevada has the highest percentage of negative equity in the nation.
“Negative equity remains an issue for the housing market as a whole, and poses a risk to any recovery,” Humphries said. Among other consequences, it makes homeowners unable to relocate. If economic growth is slower and unemployment rises, “more homeowners will be unable to make timely mortgage payments,” he said.
These findings suggest that unless housing metrics change drastically there is little risk for further increases in home equity losses and strategic defaults.
