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2012: The year of loss mitigation

2010 was the year of the mortgage modification. That largely failed. 2011 was the year of the short sale. That also largely failed. Combine the failure of the two to reach desired goals, and 2012 will turn out to be the year of loss mitigation. Mortgage servicers are finally developing the necessary strategies for using all guns in the arsenal to settle distressed mortgages. The American public will likely hate them for it, but mortgage finance players will recognize the value of tailoring solutions on a per-borrower basis. According to Lender Processing Services [stock LPS][/stock], the writing is on the wall. The number of foreclosure starts is reaching a near-term high, according to LPS' most recent "Mortgage Monitor" report. Foreclosure starts totaled 248,000 during August, up 20% over July, but still down 12% year-over-year. The number of mortgages taken out of foreclosure and back into delinquency is also at an all time high, LPS notes. Reading between the lines, mortgage servicers will face a surge of distressed borrowers. These households will require bespoke servicing regardless of cost. Mortgage lenders won't want to put too much foreclosure inventory on the market so they'll look for other ways to address those loans via loss mitigation. Additionally, as Sterne Agee analyst Greg Smith pointed out in a note to clients, "a high number of modified loans falling back into delinquency, and key drivers of delinquencies and foreclosures, namely unemployment and negative home equity, remain intact." On one hand, there remains the argument of costs. Mortgage servicers will balk at the additional money spent to service these loans. However, the alternative is not nearly as pretty. GMAC on Tuesday, for example, shows the pitfalls of seriously mishandling distressed mortgages. So the writing is on the wall for mortgage servicers to look forward to another year of high costs, high negative headline risk and low profits. Borrowers stand to benefit greatly for this, but won't be handing out any medals. Even companies that seem most likely to benefit, as in providers of default mortgage services, will experience ho-hum earnings. For example, LPS will experience a significant uptick in its default services revenue, Sterne Agee said, but won't earn the company huge profits (Smith says 55 cents in earning per share). As with anything in mortgage finance, the government will hold a huge influence. There is a possibility of another government program, or modification of an existing program, that could change the probability of this post coming true. "Any resurgence in foreclosure activity remains uncertain as state and federal foreclosure prevention efforts are ongoing, regulatory and legal scrutiny over the foreclosure process remains high, and the Obama administration may yet introduce new efforts to support the housing market," Smith said. Write to Jacob Gaffney. Follow him on Twitter @jacobgaffney.

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