Disclosure of National Bank and Federal Thrift Mortgage Loan Data

Fourth Quarter 2008

Executive Summary

This OCC and OTS Mortgage Metrics Report for the fourth quarter of 2008 provides performance data on first lien residential mortgages serviced by national banks and federally regulated thrifts, for both the fourth quarter and the full year. This is the fourth quarterly report and third joint report by the Office of the Comptroller of the Currency (OCC) and the Office of Thrift Supervision (OTS). This report provides a comprehensive picture of mortgage servicing activities of most of the industry's largest mortgage servicers, covering approximately two-thirds of all mortgages outstanding in the United States and incorporating information on all types of mortgages serviced, including subprime mortgages. More than 90 percent of the mortgages covered were serviced for third parties as a result of loan sales and securitizations.

Key findings of the report are summarized below.

Mortgage Performance

• Credit quality declined during the fourth quarter, continuing the trend reported from the first three quarters. Over the full year, the percentage of current and performing mortgages decreased from 93.33 percent at the end of the first quarter to 89.95 percent at the end of the fourth quarter.
• This decline in credit quality occurred across all risk categories, e.g., prime, Alt-A, subprime, and "other" mortgages.¹ Not surprisingly, subprime loans had the highest level of seriously delinquent loans, defined in the report as loans 60 or more days delinquent. The percentage of subprime loans that were seriously delinquent climbed from 10.75 percent at the end of the first quarter to 16.40 percent at the end of the fourth quarter. Similarly, the percentage of Alt-A loans that were seriously delinquent increased over the same period from 5.18 percent to 9.10 percent.
• The biggest percentage jump was in prime mortgages, which is the lowest risk loan category and accounts for approximately two-thirds of all mortgages in the overall portfolio. The percentage of seriously delinquent prime mortgages increased from the very low starting rate at the end of the first quarter of 1.11 percent to 2.40 percent at the end of the fourth quarter—an increase of over 115 percent—with a significant rise from the third to the fourth quarter.
• New in this report are data on first payment defaults, in which borrowers fail to make the very first payment on new loans-an important early indicator of loan performance and potential fraud. The percentage of first payment defaults increased significantly over the year in all risk categories of loans other than prime loans.

Home Retention Actions: Loan Modifications and Payment Plans

• Newly initiated home retention actions totaled 301,648 during the fourth quarter, an increase of 11.2 percent from the third quarter, up 16.3 percent from the second quarter, and up 44.5 percent from the first quarter.
• Somewhat surprisingly, loan modifications, which consist of changes to loan terms such as interest rates or the loan duration, although increasing in actual numbers, nevertheless constituted a decreased proportion of overall home retention actions in the fourth quarter in comparison with payment plans, for which the contractual terms of the loans remain unchanged but the amount or timing of payments are temporarily altered to allow borrowers to return delinquent loans to a current status (e.g., where borrowers are given more time to catch up on missed payments). Loan modifications accounted for 40 percent of all newly initiated home retention actions during the fourth quarter, compared with 43 percent during the third quarter and 52 percent during the second quarter² .

Re-Default Rates of Modified Loans-in Aggregate

• For modified loans, re-default rates are defined in terms of subsequent delinquencies and foreclosure actions. Consistent with last quarter's report, re-default rates of modified loans were high and rising for loans modified in each of the first three quarters of 2008. In addition, the re-default rate increased for loans modified in each successive quarter, with loans modified in the third quarter having the highest re-default rates.
• These conclusions held true regardless of whether the definition of re-default was 30 or more days delinquent or in foreclosure, 60 or more days delinquent or in foreclosure, or 90 or more days delinquent or in foreclosure. For example, as the graph below shows, the percentage of modified loans that were seriously delinquent (60 or more days delinquent or in foreclosure) after eight months was 40.9 percent for loans originated in the first quarter, and 45.9 percent for loans originated in the second quarter, with a worsening trend emerging for loans modified in the third quarter. Not surprisingly, the rates were even higher using the 30-or-more-days-delinquent measure—approaching 60 percent for loans modified in each of the three quarters—and lower using the 90-or-more-days-delinquent measure.³
  
   

   
  

• Also consistent with last quarter's report, the re-default rate for loans serviced for third parties (approximately 91 percent of all serviced loans) was significantly higher than the re-default rate for loans held in the servicer's own portfolio (9 percent of all serviced loans). For example, nine months after modification, the percentage of loans serviced for others that were seriously delinquent was 67 percent higher than loans held on-book (49.5 percent vs. 29.7 percent). This large difference is consistent with the fact that servicers generally have greater flexibility to modify loans held on their own books, especially before default has occurred, than they have with respect to loans serviced for others, which are often subject to more rigid contractual limitations on modification.

Re-Default Rates of Modified Loans—by Changes in Monthly Payments

As noted in last quarter's report, the reasons for high re-default rates are not clear. They could result from such factors as a significantly worsening economy with more borrowers losing jobs, excessive borrower leverage, issues affecting consumer willingness to pay, or poor initial underwriting. None of these factors can be easily captured in the type of data gathered by this report.

But another potential factor can be assessed more easily through data collection: the extent to which changes in monthly payments affect re-default rates. Loan modifications can reduce monthly payments, leave monthly payments unchanged, or increase monthly payments, depending on the circumstances.

Loan modifications may result in an increase in monthly payments where borrowers and servicers agree to add past due principal and interest, advances for taxes or insurance, and other fees to the balance of the loans and re-amortize the new balances over the remaining life of the loans. The interest rate on the loans may or may not be changed in these situations. Modifications may also result in an increased monthly payment for adjustable rate mortgages about to reset where the interest rate is increased but not by as much as contractually required. Servicers' modification activities also are dictated by private label and government agency servicing agreements which, in some cases, define the type and the amount of modification(s) that could be executed, and exclude modifications that reduce monthly payments. Servicers report, however, that recent changes in some government and private label servicing standards give them more flexibility to structure loan modifications that reduce monthly payments.

Servicers also modify some loans that leave principal and interest payments unchanged. One example is in cases where servicers "freeze" the current interest rate and payment instead of allowing the rate and payment to increase to the level that would otherwise be required under the contractual loan terms.

Modifications that result in a decrease in payments occur when banks elect to lower interest rates, extend the amortization period, or forgive or forbear principal.

Reduced payments make loan modifications more affordable, and it stands to reason that more affordable payments would be more sustainable and lead to lower re-default rates, whereas increased payments would lead to higher re-default rates. Data were collected for the first time in this quarter to determine whether loan modifications are more effective when loan payments are reduced. Modifications were grouped in four categories to reflect changes in monthly principal and interest payments, that is, modifications that (1) reduced monthly payments by more than 10 percent; (2) reduced monthly payments by 10 percent or less; (3) left monthly payments unchanged; and (4) increased monthly payments. Re-default rates were then calculated for each category. Key findings follow:

• Overall, as shown below, almost 42 percent of loans modified resulted in reduced monthly payments, with more than 29 percent resulting in payment reductions of more than 10 percent. However, the majority of loan modifications did not reduce monthly payments: nearly 27 percent resulted in unchanged monthly payments, and about 32 percent resulted in increased monthly payments.

• In the fourth quarter, there was a significant increase in modifications resulting in payment reductions, as shown below. Unlike in previous quarters, such payment-reducing modifications constituted more than 50 percent of all modifications. Similarly, modifications that reduced monthly payments by more than 10 percent increased more than 11 percentage points, rising to 37.2 percent of all fourth quarter modifications.

*Percentages may not add to 100 due to rounding

• The data collected on re-default rates by changes in monthly payments provide support for the premise that more affordable monthly payments produce more sustainable modifications. As shown in the chart below, modifications that decreased monthly payments had consistently lower re-default rates, with larger payment reductions resulting in lower re-default rates. When loan modifications decreased monthly payments by more than 10 percent, only 22.7 percent of those loans were seriously delinquent six months after modification. In contrast, when modifications left payments unchanged, 50.6 percent of such loans were seriously delinquent after six months, and for modifications that increased payments, the comparable rate was 45.8 percent.⁴

Home Forfeiture Actions-Foreclosures, Short Sales, and Deed-in-Lieu-of-Foreclosure Actions

• Newly initiated foreclosure actions declined for the second consecutive quarter, decreasing 6.5 percent from the third quarter to 262,906 during the fourth quarter. Similarly, completed foreclosures decreased by 23.5 percent from the third to the fourth quarter. The declines in both measures of foreclosures may reflect, in addition to increased home retention activity, state moratoria on foreclosures and voluntarily suspensions of foreclosure proceedings by servicers in anticipation of a federal program governing loan modifications.
• Importantly, the number of newly initiated home retention actions—loan modifications and payment plans—exceeded the number of newly completed foreclosures and other home forfeiture actions by more than 2.8 times during the fourth quarter and for all risk categories.

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