VA product continues to hold more potential servicing liability than other legacy loans due to the way its risk is shared, and as a result underwater VA servicing still does not often trade, but one executive working to mitigate this risk says it now has data showing it can be managed.
His company is now working with four servicers and has more than two years of data showing performance can be improved and servicing cash flows made more predictable compared to control groups by applying positive incentives to borrower’s loans in this category.
While VA loans are a small subset of the loans the company, Loan Value Group, has tracked the effect of rewards on about 10,000 compared to approximately 70,000 for traditional reward programs, there is a disproportionate need for liability management in the VA sector in particular, especially when it comes to underwater loans.
The capital markets continue to “speak loudly” when it comes to this, Frank Pallotta, managing partner, Loan Value Group, told this publication, noting that it remains true that the rare times underwater VA product has traded it has tended to trade with the servicer retaining some liability.
In the long term one might hope that risk on VA mortgage servicing could be improved to the point where it could gain some positive value on the secondary market and spur more trading, but improvement at this point means less trading in terms of forced sales, Pallotta said.
Rather than feeling forced to sell at a loss, mortgage servicer clients are becoming more comfortable keeping the product on their books if they find they can mitigate its risk with rewards for borrowers’ on-time payment, he said.
Pallotta said data from the past two years show the risk can be controlled very soon after application of rewards in terms of improvement in the legacy VA mortgage delinquency rate both at the 30-day-plus mark and the 90-day-plus mark.
The improvement at the 30-day-plus mark is 30% lower compared to the control group and 45% lower at the 90-day-plus mark.
As previously noted in this column, VA mortgage servicing liability originally became more problematic in the troubled 2005-2008 vintages as the VA insurance coverage maximum became insufficient relative to loss severities increased during the downturn.
VA actually tends to perform well relative to other loan types, but it does go up to higher loan-to-value ratios and is thus more susceptible to home price depreciation. Pallotta said data show rewards can improve performance not just for underwater product, but VA in general.
Home price improvements seen recently can help with depreciation risk that can affect loan performance and workouts, but given VA loans’ relatively high loan-to-value ratios (up to an original loan-to-value ratio of 97%) there is still distressed agency product out there companies are trying to work out.
Pallotta said the mortgage rewards can intensify borrowers’ awareness of their loan options in ways that improve performance, not only in terms of on-time payments, but also in ways that may encourage, for example, a borrower to search for servicers that allow for streamline refinancing without an appraisal.
Data also show that, relative to the control group, because of this awareness the rewards can encourage not only potentially more refinancing of qualified VA mortgage borrowers but also other workout alternatives such as the use of short sales or deed-in-lieu, which can be more attractive outcomes than, say, a foreclosure.
The increase compared to a control group for short sales is almost 20%, he said.
