During the first quarter of this year the default risk for purchased and refinanced loans backed by Freddie Mac and Fannie Mae increased for the first time since 2019, when Milliman, providers of actuarial and related products and services, began tracking such data through its mortgage default index.
The default rate for Freddie and Fannie loans grew from 1.38% in Q4 2020 to 1.52% for acquisitions originating in Q1 2021, Milliman reported.
Millman's index measures borrower, underwriting, and economic risk. "Borrower risk measures the risk of the loan defaulting due to borrower credit quality, initial equity position, and debt-to-income ratio. Underwriting risk measures the risk of the loan defaulting due to mortgage product features such as amortization type, occupancy status, and other factors. Economic risk measures the risk of the loan defaulting due to historical and forecasted economic conditions," according to the publication.
"For Freddie and Fannie mortgages that originated in early 2021, we're seeing an increase in the potential for default primarily because of economic risk," says Jonathan Glowacki, a principal at Milliman and author of the MMDI. "Home-price appreciation for these loans is more pessimistic compared to previous quarters, despite underwriting and borrower risk remaining fairly consistent."
The report adds that the main driver of the increase in default risk arises from a more pessimistic long-term home price forecast.
"Borrower and underwriting risk were generally consistent quarter to quarter. Loans guaranteed by Ginnie Mae also experienced an increase in their default risk in 2021 Q1 relative to the prior quarter. This is predominantly due to the decrease in volume of refinance loans for both GSE and Ginnie originations compared to last quarter," reads Glowacki's report.
While the current level of robust home price growth is certainly a function of the pandemic and supply/demand imbalances, it is difficult to estimate how home prices may react post-pandemic, Milliman noted in its press release accompanying the report, adding that "MMDI reflects a baseline forecast of future home prices. To the extent actual or baseline forecasts diverge from the current forecast, future publications of the MMDI will change accordingly."