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Fitch Expects Re-Defaults on 75 Percent of Subprime RMBS Mods

""Fitch Ratings"":http://www.fitchratings.com took a closer look at servicers' loss mitigation efforts among residential mortgage-backed securities (RMBS) in a ""special report"":http://www.fitchratings.com/corporate/reports/report_frame.cfmxrpt_id=441808§or_flag=3&marketsector=2&detail= issued last week. The agency found that while home loan workouts to avoid foreclosures have increased substantially, re-defaults post-modification continue to be a problem for servicers, investors, and homeowners, with as many as three-fourths of those mortgages in the subprime category projected to fall back into default status within one year of the initial resolution.
The report examined mortgages bundled into securities between 2005 and 2007 - a period marking the peak of subprime lending and investor involvement in the secondary housing market. The loan pools are serviced by more than 30 Fitch-rated firms who collect and modify the loans for RMBS investors.
At the end of 2008, Fitch projected that over the following 12 months, RMBS servicers would modify up to 15 percent of 2005−2007 vintage RMBS mortgages, an increase from virtually none in 2007. As of April 2009, the agency reported, approximately 7 percent of RMBS and 18 percent of RMBS subprime loans securitized during this period had been modified.
According to Fitch, 35 to 55 percent of RMBS modifications typically re-default after a year. However, based on information from servicers and data from First American Loan Performance, Fitch places a ""conservative projection"" for subprime re-default rates within the range of 65 to 75 percent after 12 months. The agency says market pressures on servicers to pursue more aggressive mods and sliding home prices, as well as continued job losses across the country, factor into this heightened subprime projection.
Principal reduction has been debated as necessary for the success of modifications. Proponents believe that borrowers re-default less when they have greater incentive to stay in the home by having their principal reduced, giving them an immediate, or at least a faster, means of accumulating equity. Fitch's data on mods supports this theory. The agency says loan modifications with material principal increases of more than 10 percent show higher re-defaults - 60 to 70 percent.
Fitch points out in its report that the new administration’s modification guidelines primarily focus on affordability of payment, with the use of principal forbearance (as opposed to forgiveness) as a last step in the process. However, the program provides for incentives ($1,000 for each of five years) to reduce the outstanding principal if the borrower successfully keeps up with the new mortgage payments.
For those servicers who have signed on to the federal Home Affordable Modification program, the program guidelines state that the administration's modification procedures should be used as ""usual and customary industry standards,"" including application to RMBS. And if such modifications are specifically prohibited by securities' pooling and servicing agreements (PSAs), the servicer is required to use reasonable efforts to remove these obstacles. However, Fitch says many RMBS investors, as well as servicers, have expressed concerns with the administration's guidance regarding long-term performance of the modified loans, process specifics, and legality within the PSA contracts.

About Author: Carrie Bay

Carrie Bay is a freelance writer for DS News and its sister publication MReport. She served as online editor for DSNews.com from 2008 through 2011. Prior to joining DS News and the Five Star organization, she managed public relations, marketing, and media relations initiatives for several B2B companies in the financial services, technology, and telecommunications industries. She also wrote for retail and nonprofit organizations upon graduating from Texas A&M University with degrees in journalism and English.
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