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FHA Chief Risk Officer expects better performance from newer mortgages
September 9, 2010
Bob Ryan is the first chief risk officer of the Federal Housing Administration. He was hired in October 2009. A recent increase in the FHA insurance premiums is stirring some controversy in the market as to when the policy changes will help the insurance fund. Sheila Bair, chairman of the Federal Deposit Insurance Corp. said tighter, common-sense controls for mortgage lenders will help the housing market going forward. For this edition of In This Corner, Ryan says the models for the policy were built on the forecast that recent FHA mortgages will stay current longer. The FHA adjustments to its insurance premiums take effect Oct. 4. But is the increase in the monthly yield offset by the cuts in the upfront premiums? No I don't think it is. There is a net incremental increase embedded in there. People may have a different view of what the expected life of the new loan is, just as every investor has a potential view of what the prepayments are going to be of a particular loan is when they make an investment decision. So there is some range of possibilities as far as how long that loan will go out. We use models to help us estimate. It's a process we go through with the Office of Management and Budget (OMB) and its embedded in the budget process, so it's pretty well vetted. It would take three years to make up unless the increase could go into effect on post-closed loans, which it can't. But the issue is that we would expect, on average, those loans would last a good bit more than three years. In fact, it would be a little bit more than double, to the seven to eight-year range. So if you were to do the arithmetic on that you'd see it would more than offset the decline in the upfront fee. So, you're expecting borrowers who receive mortgages written Oct. 4 and beyond to be paying premiums for at least seven years. These loans will be current longer. There's a lot of things that play into that, such as the mortgage rate environment. This is all embedded in future forecasting of interest rates, but that the general conventional wisdom is that rates will be more likely to rise than to fall. I'm not making a prediction, I'm just saying that's what's embedded in the yield curve. And all these things conspire to mean that these loans will probably be out there for a long time. With the rise in insurance premiums, how long will it take to get the FHA insurance fund back to a healthy level? That's an involved calculation. You would have to run through and make a bunch of other assumptions. This per rate increase has a large impact on accelerating the return to the 2% capital ratio. All the other credit policy changes that we've announced, some of which have started to go into effect, all of those enforcement actions, have made lenders more aggressive at how they monitor the credit risk and the underwriting processes that they go through. That means that we're getting higher credit scores and better quality loans. Those activities in combination are also going to contribute to the return to the capital ratio of above 2%. The biggest contributor in the near term is going to be this premium increase. Some have said that the FHA's greatest strength has been its larger upfront fee and the lower monthly premiums. With the latest adjustments, is the FHA moving away from that? There's pros and cons to both the upfront and over-time fee. The biggest con to the over-time fee is right now we allow it to be financed into the balance of the loan. You're taking that upfront premium, and you're actually increasing the loan-to-value (LTV) ratio because you're rolling it into the unpaid principal balance of the loan, and that defeats some of the purpose of it. So I think we get a double benefit from lowering that upfront and increasing it over time. It's also a little bit more borrower friendly, in that they would have to come out of pocket for more cash if they had to pay the full upfront amount out of cash. Have someone that would be perfect for In This Corner? Email the editor.