Laid-Back Lenders

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A oft-heard theory regarding the foreclosure situation goes something like this: the overabundance of risky mortgages may cause a lot of defaults, but lenders won't be able to afford to foreclose on too many borrowers. Therefore, lenders will be more flexible than they have been in housing busts past, allowing delinquent borrowers more time or easier loan terms to help them get back on track.

We can test this theory fairly well using available data. But first, a terminology refresher. A Notice of Default (NOD) is a letter sent to a delinquent borrower saying, in effect, "pay up or else." A Notice of Trustee Sale (NOT) is filed upon the occurrence of the "or else" -- when the lender takes back the home. The law dictates that the lenders can't take back the home and file the NOT until three months after the sending of the NOD.

That three-month delay is not by any means set in stone, but it seems to be a fairly typical timeline between an NOD and the ensuing NOT. Thus, by dividing the number of NOTs filed in a given month by the number of NODs filed three months earlier, we can get a rough idea of how many lenders are actually going through with the foreclosures they've threatened against delinquent borrowers.

The graph to the right displays the outcome of this exercise. The yellow line is the number of NOTs as a percentage of NODs three months prior. For reference I've also included the raw number of NOTs in red, expressed as usual as a percentage of San Diego's labor force in order to adjust for population growth.

So far, the oft-heard theory looks to be right. When NOTs first reached 0.04 percent of the labor force in 1993, 54 percent (by our inexact model, mind you) of defaulting borrowers were being foreclosed upon. The number of NOTs has just passed .04 percent for the first time during this downturn, but only 45 percent of defaults are going to foreclosure.

Perhaps lenders are being more flexible after all. Then again, I've heard anecdotally that the sudden spike in foreclosures (note the comparitive steepness of the recent rise in foreclosures compared to the early 1990s) has the lenders operationally backed-up. If this is true, then there could just be a larger-than-usual delay between NOD and NOT.

There's another wrinkle to consider: this time around, a lot of the "lenders" are actually the varied holders of structured mortage credit derivatives. The layers of separation between creditor and borrower may allow for less flexibility in working out delinquent loans. This doesn't seem to have been the case so far, however. It will be interesting to check back in on the relationship between NODs and NOTs in the future, but for the time being, the evidence supports the theory of the laid-back lenders.

-- RICH TOSCANO