TEXT-Fitch: rising delinquency rates pose looming threat for FHA
Aug 16 - Worsening delinquency trends for home loans insured by the U.S. Federal Housing Administration (FHA), evident on large banks' balance sheets in the second quarter, may point to more trouble ahead for the FHA as the agency seeks to shore up its loss reserves. Fitch Ratings sees a growing divergence between 90-day past due delinquency patterns for guaranteed and nonguaranteed loans as a potentially troubling signal of future losses. This may eventually force the FHA to look for opportunities to put back some defaulted loans to the banks, particularly if the agency's funding status worsens and U.S. home prices fail to rebound quickly. The agency's funding position has been helped by a 75-bp increase in required up-front premiums to 1.75%, which went into effect this spring. Still, the FHA's capital position remains very weak relative to statutory guidelines. As of November 2011, its capital reserves ratio declined to 0.24%, far short of the congressionally mandated 2% level that would provide a buffer against credit losses on FHA-insured loans. Taxpayer funding of a bailout for the agency will not be required in fiscal 2012, thanks in large part to a $1 billion payment received by the FHA from banks as part of a residential mortgage settlement. However, rapid growth in the volume of FHA-insured loans since 2008 and the high delinquency rate suggest that further erosion of reserves is likely, contrary to the FHA's belief that it will restore the 2% capital ratio by fiscal 2014. Most large mortgage lenders are now providing detail on the breakdown of total delinquencies between guaranteed and nonguaranteed loans. Wells Fargo, for example, reported that 90-day past due delinquencies totaled $1.4 billion for nonguaranteed loans as of June 30, while the comparable figure for government-guaranteed loans (including both FHA and Veterans Administration guarantees) was $20.4 billion. For eight of the largest U.S. banks with substantial portfolios of FHA-guaranteed loans on their books, combined 90-day past due delinquencies totaled $79.4 billion at June 30. Of that total, 83%, or $66.0 billion, represented government-guaranteed mortgages. This highlights the dimension of the growing delinquency problem for the FHA, given the predominant position of FHA-guaranteed loans in the troubled asset categories of major banks. While delinquency rates for nonguaranteed loans have been improving steadily at these institutions, the trend for FHA-guaranteed loans is starkly different. To the extent that improved bank earnings and stronger overall asset quality metrics at U.S. banks have created additional headroom to absorb potential mortgage losses, the FHA delinquency problem can be managed more effectively now. In particular, better nonresidential mortgage performance is creating less of a drag on banks' overall loan quality, providing more flexibility to cope with any future intensification of residential mortgage problems. With many FHA-guaranteed loans in a negative equity position, the low required down payment of 3.5% for qualifying borrowers is likely to exacerbate default and delinquency trends over time, as borrowers have reduced incentives to continue making payments. Absent a quick turnaround in delinquency and foreclosure trends, and assuming Congress will have little appetite for an FHA bailout in 2013 or later, we expect the FHA to evaluate unconventional methods to boost reserves, potentially including a more aggressive stance vis a vis banks over full insurance coverage of defaulted mortgages. Although the FHA may not take steps to repurchase loans from the banks in the same way as Fannie Mae and Freddie Mac, the potential for such action contributes to long-tail risk in the mortgage portfolios of major banks. As a result of increased funding risk in the FHA system, we will continue to monitor closely the asset quality of large banks' guaranteed mortgage books. The above article originally appeared as a post on the Fitch Wire credit market commentary page. The original article can be accessed at www.fitchratings.com. All opinions expressed are those of Fitch Ratings.
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