Loan Mods Beaten Up By Loan Rockers

With the real estate market back in free-fall, yesterday's House Oversight Committee hearing on the failure of the Home Affordable Modification Program gives some hints about why the pain is going to go on and on.

In testimony, Edward J. Pinto, who has done yeoman work on figuring out how the loan-guarantee giants Fannie Mae and Freddie Mac managed to sneak loans of abysmal quality into their portfolios, gave a pretty full accounting of the program's failings. Some highlight:

* Despite its promise to help "as many as 3 to 4 million financially struggling homeowners" avoid foreclosure, HAMP is on track to spare only about 250,000 defaults.

* Though various ignoramuses continue to claim that unemployment is driving foreclosures, job loss (as noted here many times) is at best a secondary contributor to mortgage default. (That's not free-market cant: It comes from Federal Housing Finance Agency, hardcore real estate interventionist Laurie Goodman, and others.)

* Pinto's estimate of inevitable redefaults on modified loans is an eye-popping 40 percent -- and that's actually lower than consensus opinion that has redefault rates at 50 percent. (The performance-so-far figures in the must-read Mortgage Metrics Reports from the Office of Thrift Supervision support the higher figure.)

* Despite conventional wisdom that HAMP would curb redefault rates by increasing the number of principal-reduction modifications (i.e., the bank reduces the actual size of your loan and the taxpayers make the bank whole for its loss -- the rarest and most radical type of loan mod), HAMP actually reduced the number of successful permanent modifications. These peaked in the first quarter of 2009, before the stimulus went into effect.

* The modifications being made by and large are based on even worse credit evaluation than the lax lending standards that caused the crisis in the first place. Example: "[B]orrowers obtaining a permanent modification through May 2010 had a median total debt to income ratio of 64%. A total debt-to-income ratio of 40% would be considered high on a loan not at risk."

* A vast amount of trouble has been caused by the administration's need to window dress its efforts and show fake progress. The most damning part of Pinto's report comes in a footnote:

The clogged pipeline problem dates back to a desire by Treasury to post big numbers early on. To achieve this, the entirely new concept of a trial modification was introduced. Borrowers were allowed to enter a trial without qualifying on the basis of income. No doc loans were replaced with no doc modifications. This wasn't fair to those borrowers who had no chance of qualifying. They were left in a no man's land and many will be worse off than if they had been given a quick no and encouraged to find alternative housing. This design flaw caused the HAMP pipeline to become hopelessly clogged, leading to a series of blame and shame attacks on servicers.

As the rest of yesterday's hearings showed, the blame-and-shame attacks have not stopped. "I just wonder how hard you are really trying," Rep. Dennis Kucinich (D-Ohio) told JPMorgan Chase's head of home lending. "Why are you denying loan modifications to my constituents?"

Rep. Edolphus Towns (D-New York) joined in the show trial, stating, "This is not just about HAMP… I think the mortgage banking industry has got to recognize that HAMP cannot be the only solution to the mortgage foreclosure crisis."

Their comments indicate neither Kucinich nor Towns has been paying much attention to what's actually happening in the world of mortgage default. Far from being too quick to foreclose, banks have in fact been doing everything they can to avoid adding more REO property to their balance sheets. Lenders have essentially tolerated defaults on houses with plummeting values, and borrowers in many cases have been getting free rides of a year or more. It's only since the first quarter of this year that the necessary work of foreclosure has begun in earnest -- in many cases after repeated cycles of default, modification, redefault and remodification. Without the false hope of being able to bail out on the public, banks and bad borrowers would have taken their medicine long ago, rather than dragging out the agony through this elaborate tango. So this is, in fact, just about HAMP -- specifically about HAMP's massive failure to do what it promised, and about how it has distorted the market in ways that will take years to sort out.