A new report from the Urban Institute highlights not only the effectiveness of private mortgage insurance, but also what this could mean for lenders and borrowers.
Certainly it’s no secret that the mortgage insurance industry suffered during the Great Financial Crisis: Paying more than $45 billion in claims tested the industry severely. What is worth emphasizing, however, is just how well the mortgage insurance (MI) companies did their job and how that performance might be used to justify reliance on private mortgage insurance to expand GSE credit risk sharing in a way that benefits lenders and borrowers more directly.
The Urban Institute recently analyzed newly released data on loan loss severity for loans in Freddie Mac’s portfolio.[i] This became possible because in November 2014, Freddie Mac added data on loan behavior after a credit event (i.e., going 180 days delinquent or terminating prior to 180 days as a result of a deed in lieu, short sale, foreclosure sale or REO sale.) The reason they added this data was to aid investors considering participation in Freddie Mac’s credit risk sharing transactions. What it revealed could help both lenders and borrowers down the road.
As the Urban Institute graphic below demonstrates, and as the authors note, “[i]n every issue year examined, when loans experienced a credit event, private mortgage insurance did its job and kept the losses for high-LTV loans generally below the losses experienced by lower-LTV loans.”
Or, as the researchers stated, “[t]o put it simply, mortgage insurance is doing precisely what it was designed to do: Lowering actual losses on higher-LTV loans to levels seen in much lower-LTV loans.” [emphasis added]
Of course, that good news is worth sharing, but the implications are even more exciting. Or at least should be for all those making their living in the mortgage industry or thinking of buying a home.
GSE risk sharing volumes to reduce taxpayer exposure continue to increase in volume and variety, but the benefits of these arrangements have missed medium and smaller lenders and borrowers. Even the 2015 FHFA GSE Scorecard overlooks the possibility, emphasizing greater involvement of smaller and rural lenders in GSE programs under one part of the Scorecard, but setting credit risk sharing targets in another.[ii]
The MBA consistently has made the case for front-end risk sharing involving private mortgage insurance to allow lenders of all sizes and sophistication to participate in risk sharing.[iii] The Urban Institute data supports this position by providing clear evidence of the effectiveness of private mortgage insurance on loans with original LTVs exceeding 80%.
With front-end risk sharing, the credit risk is not delivered to the GSEs and then transferred to Wall Street investors or global reinsurers; instead, the risk is assumed by the mortgage insurance companies before the loan is delivered.
The reduced risk should allow a reduced guarantee fee to be charged to the lender by the GSEs, with the savings reflected in the origination transaction (e.g., lower consumer costs) rather than after the fact. Participating lenders and borrowers would benefit directly instead of wondering whether any of the benefits from the back-end risk sharing are being shared with them. And, because private mortgage insurance is the risk-transfer mechanism, all MGIC Master Policyholders could participate.
To be sure, the GSEs and the US Treasury, their largest financial investor, have legitimate interests in seeing that mortgage insurance is up to the job. However, the Urban Institute analysis confirming the effectiveness of mortgage insurance even before implementation of the new Master Policy and strengthened capital position that will result post PMIERs should cause more serious consideration of front-end risk sharing. Whether it does or does not is up to the FHFA to decide.
More information about the basics of private mortgage insurance can be found here.Tags: FHFA, GSEs, Loan Origination, MBA, Mortgage Industry, Mortgage Insurance, Mortgage Strategies, Top Content