[Update: 46% of pre-HAMP modifications done in the third quarter of 2008 were 60 or more days delinquent]
For several years Edward Fay, CEO and Founder of Fay Financial, recognized the deviation of affordability metrics in the US housing market relative to historical averages. Fay Financial was created in 2008 specifically to address the growing dislocation in the housing market.
For this episode of In This Corner, Ed discusses the Home Affordable Modification Program (HAMP) and how his firm tackles the obstacles in today's servicing industry.
HW: Is the Home Affordability Modification Program (HAMP) encouraging servicers to do the wrong thing?
Ed: "The government had to develop a modification program to allow safe harbor on mortgage-backed securities as their covenants restricted servicers’ ability to modify loans and opened them up to litigation risk from bondholders. For the remaining 40% of mortgages that are fully-owned by the lender, it’s just one of many tools that servicers should be using to prevent foreclosure.
"I don’t think that HAMP is encouraging servicers to do the wrong thing but it is discouraging them from considering other workout strategies. Because servicers usually have more flexibility with whole loans, there may often be other workout strategies that are better for both the borrower and lender. For example, using a full suite of workout strategies which include, among other things, temporary and permanent modifications we’ve been able to get 83% of the loans that were in foreclosure when we started servicing them out of foreclosure.
"Additionally, HAMP is a permanent modification when some borrowers may actually need a more aggressive but shorter-term restructure to make their payment affordable and keep them out of foreclosure. For example, payment forgiveness may be better solution for a borrower who is temporarily unemployed and more economical for the investor than a permanent modification."
HW: There was a time when the TARP transaction reports were a page long. Now, they bulge to twenty. Is the HAMP program growing too big too fast?
Ed: "I think we should be cautious about ramping up the program until we know that servicers are using it effectively and preventing foreclosure. In June, the OCC and OTS reported that 46% of pre-HAMP modifications done in the third quarter of 2008 were 60 or more days delinquent after six months. It shows there’s no silver bullet and that there’s still a lot of opportunity to design better workout strategies. Although we modify loans according to HAMP guidelines for our clients who need us to do so, we do not take government incentives. We want to have the flexibility to do other types of modifications when they’re in the best interest of the borrower and our clients. By retaining that flexibility, we’ve been able to keep our re-default rate under 10% and still generate excellent yields for the lender. I’m worried that servicers will be heavily focused on increasing the volume of HAMP modifications rather than focusing on finding a solution that’s mutually beneficial for the borrower and investor – not to mention the taxpayers who are paying the incentives."
HW: What adjustments would you like to see HAMP make in trying to increase the volume of processed loan modifications?
Ed: "We think adjustments should focus on improving the quality of modifications, not the quantity. Modifications should be based more on true home affordability and maximizing loan value, both of which will help benefit the lender and the borrower more evenly. Under the current program, servicers adjust the loan terms so that the monthly payment is as close to 31% of the borrower’s gross monthly income (i.e. front-end DTI) without going under. This approach does not always account work. Consider the following example: Two individuals with the same monthly gross income and expenses except that one of them has additional child care, transportation costs, and medical expenses of $1,400 per month. For the latter, the difference in the back-end ratio is almost double (59% vs. 31%) which probably won’t work in the long run. In fact, the recently announced FHA-HAMP guidelines are an indication that HAMP modifications won’t work when the back-end DTI is too high because the guidelines don’t allow a HAMP modification when it’s over 55%."
HW: How does Fay Servicing address the challenges facing traditional servicing operations in today's US housing market?
Ed: "The greatest challenge facing a traditional servicing operation is that they were essentially set up to be low-cost and high-volume bill collectors. However, today you need high-quality problem solvers who understand the complexity of each loan and that makes the one-size-fits-all approaches insufficient.
"To address this reality, we focused on hiring the best people and our staff has been the most important factor in our success. We don’t segment the roles in an assembly line style for customers with low paid employees that specialize in one function. Instead we take experienced, talented, college-educated professionals who understand affordability metrics, customer service and our process from cradle to grave to assist our customers. This is what allows us to have contact rates in the high 90’s, obtain significant drops in delinquencies for every portfolio we have taken over and have sub-10% recidivism rates. We pay much higher rates for our staff but it is worth the price."