Sunday, December 2, 2007

Subprime Borrower: No Modification for You! Part II

The first obstacle to getting a lot of subprime loan modifications done is Logistics. The second problem is the borrowers themselves. The Wall Street Journal reported on Monday (Citigroup Feels Heat to Modify Mortgages 11/26/07) ACORN and Citigroup got together and sent letters to 340 Los Angeles homeowners inviting them to a workshop to help them keep their homes, and got a dozen responses. A 3.5% response rate does not bode well for modifications as a route out of this mess, and while there could be plenty of reasons why this particular event did not come off, the reality is a lot of borrowers are not going to ask for modifications. Some won't be aware of the modification options, no matter how much effort is made to communicate it. Some will analyze the available modification options and make a rationale conclusion that based on their particular situation they are better off walking away. For those who don't participate, the biggest group will be those who just want to move on. This is not a crazy decision if you stretched to get into a house whose value has fallen and which you don't see bouncing back anytime soon.

Post Northridge earthquake (1995) I was a consultant with the City of Los Angeles trying to facilitate the reconstruction of earthquake damaged condominium projects. These were deals which had everything going for them to make a workout happen; an Act of God (so no blame game to cloud the picture), insurance proceeds sufficient to reconstruct in almost every case, and 0% 30 year loans from the City (courtesy of a Federal HOME loan grant) to cover any gaps. The borrower participation rate? Less than 50%, and almost all of them were people who had substantial equity before the earthquake. It's hard for me to see how in a situation where people almost by definition have no equity we can expect large numbers to buy in.

This is not to say a program like this is a waste of time; appropriate modifications can be good for all parties, they can create a happy ending in individual cases, and the option should be available. I am saying even if a program like this gets off the ground there will be a whole lot more foreclosures than modifications, and low borrower participation rates will be one of the reasons.