GSE PRINCIPAL REDUCTIONS – A ROSE BY ANY OTHER NAME…

I was mystified when I read this morning about FHFA’s Ed DeMarco’s reason for not supporting Fannie Mae and Freddie Mac doing principal reductions.  In his view, it would be just another big bank bailout.   Here’s his quote: 

"If you do principal forgiveness, who is it benefiting? ... Doing principal forgiveness is what would protect the big banks,"

His reasoning is based on the premise that the banks would be forced to write off second mortgages they hold which are subordinate to first mortgages guaranteed by the GSEs (as they would be wiped out by a principal reduction).

Yet he is in favor of rate/term loan modifications and points to the success of the agencies efforts in this regard since the inception of TARP.

Ironically, the same reasons to support to loan modifications apply to  principal reductions as well.  Specifically, if you also reduce principal as a part of a loan modification, not only you do increase a homeowner's ability to repay their loans, but you are also increasing their ability to stay in the home longer.  Offering a loan modification only on rate and term only quells the bleeding for a short time.  It is not a cure.  Besides, if there is a foreclosure, the second lien holder is most certainly wiped out anyway.  So why does Mr. DeMarco feel that principal reductions on GSE loans are tantamount to a bank bailout?  I suspect that he feels the write-downs would be treated as more reason to support the banks with taxpayer dollars.  The answer to this problem is not to further punish homeowners, but, to improve transparency in reporting losses from a regulatory perspective.

But, I think a bigger TARP question remains unanswered.  Regardless of the type of modification transaction, why are full appraisals not required on any government-incentivized homeowner relief programs?  Many argue that a modification of just the loan terms is a risk change limited to the investor who holds the note.  But what about the borrower’s right to informed consent?  Are distressed homeowners just so overwhelmed that relief at any cost is worth it?  And on the flip-side, what is the impact on the local market when such loan modifications are executed?  Should the home values on purchase transactions in those markets be affected?   Can the appraiser adequately reflect the impact of homeowners who ”re-upped”?   Without a lien amount change, can the market really determine how vested the homeowner is after the modification?  Certainly, three sales and three listings will not tell the whole story. 

THE RISE OF VALUATION TECHNOLOGY

I have been thinking a lot lately about the dilemma facing residential mortgage lenders in evaluating valuation technology.  Many are looking for faster, cost-effective alternatives to traditional appraisal products or to augment underwriting analysis, quality assurance or loss mitigation. Most established technology-based products, such as commercially available AVMs, rely solely on statistical analysis and are void of the professional judgment a qualified professional appraiser adds to the analysis. 

New valuation technology-based products and services are emerging that do provide a role for the appraiser.  These are often referred to as "assisted AVMs" or AAVMs.  Additionally, new tools for appraisers to incorporate tools that provide them computing power in statistical analysis are continuing to develop, improve and make their way to market.  Unfortunately, many appraisers are not yet convinced that incorporating technology-based econometric techniques into their daily practice is necessary.  In part, I think this is due to an overall lack of education on the topic and cost-benefit awareness as it relates to these tools.

The market demands of today are desperately in need of property valuation processes that include the objective benefits and scientific rationale that statistical techniques and tools provide.  Further, such techniques provide a common understanding of the underlying business case supporting the opinion of value offered by the professional appraiser from which safer, more comprehensive lending decisions can be made.

It is my firm belief that the appraisal profession must develop a stronger base of professional individuals competent in both appraisal theory and practice that is intrinsically fused with technology to increase the depth of data analysis and expand the reach of reporting the appraisal results.  Mathematical pictures are worth a thousand words.