IRVINE, CA—According to First American Financial Corp.'s Loan Application Defect Index for October, the overall defect index for residential loan applications decreased month-to-month and year-over-year. Yet, there is a concentration of defect risk in the South and a greater defect risk being shown for purchase-driven versus refinance-driven loans, the firm's chief economist Mark Fleming points out.
In the report, Fleming says, “The post-election sudden increase in mortgage rates has accelerated the shift away from a refinance-driven market toward a purchase-dominated market. Based on analysis of loan application defect risk trends, purchase loans are riskier, so I expect that the overall decline in loan application and defect risk will slow as rates continue to rise into 2017 and the share of higher risk purchase loans increases.”
As to the geographical shift in defect risk, Fleming said, “Defect, fraud and misrepresentation risk can vary substantially by location. In fact, the most recent data is showing a growing division between the North and South. Cotton states in the South are showing the highest levels of risk, compared to the northern rust-belt, where application and defect risk is currently the lowest.” He added, “Defect risk is concentrating in the South, particularly in Arkansas and Louisiana, as well as in large markets in Texas and South Carolina.”
We spoke with Fleming about the two trends in defect risk and other shifts in loan-application defects he expects for 2017.
GlobeSt.com: Why are purchase-driven loans generally related to greater risk of loan-application defects?
Fleming: Generally, there is more involved in qualifying a purchase borrower, particularly a first-time borrower who is new to the process. Refinance borrowers have gone through the process and know what to expect and know what documentation to provide. There are fewer entities involved in a refinance transaction, which also mitigates the risk.
GlobeSt.com: Why are loan applications from the South becoming riskier for defects?
Fleming: That's a great question. While the defect index identifies risk, it tells us much less about the cause of the risk. That said, we generally find through historical experience that economic distress and fast-rising house prices can both increase incentive for fraud, which will appear as rising risk in our index. This may be one potential source of risk in southern markets that are more dependent on the energy, manufacturing, furniture and textile industries.
GlobeSt.com: What other shifts do you anticipate in loan-application defects as we move into 2017?
Fleming: The demographic influence of Millennial first-time homebuyers will be an important driver of the defect index as the share of loan products targeted to first-time buyers increases and their preference for conventional or FHA loans differs from other types of borrowers.
GlobeSt.com: What else should our readers know about the geographical and loan-type shifts as they relate to loan-application defects and fraud risk?
Fleming: While we have already noted the distinct risk differences by loan type, it is also important to note that there are differences by property type, occupancy, investor and geography. How demand for mortgages changes the mix of these attributes will impact the overall index. A traditional market dominated by first-time homebuyers will have a different risk profile than the refinance-dominated market of the recent past.
IRVINE, CA—According to
In the report, Fleming says, “The post-election sudden increase in mortgage rates has accelerated the shift away from a refinance-driven market toward a purchase-dominated market. Based on analysis of loan application defect risk trends, purchase loans are riskier, so I expect that the overall decline in loan application and defect risk will slow as rates continue to rise into 2017 and the share of higher risk purchase loans increases.”
As to the geographical shift in defect risk, Fleming said, “Defect, fraud and misrepresentation risk can vary substantially by location. In fact, the most recent data is showing a growing division between the North and South. Cotton states in the South are showing the highest levels of risk, compared to the northern rust-belt, where application and defect risk is currently the lowest.” He added, “Defect risk is concentrating in the South, particularly in Arkansas and Louisiana, as well as in large markets in Texas and South Carolina.”
We spoke with Fleming about the two trends in defect risk and other shifts in loan-application defects he expects for 2017.
GlobeSt.com: Why are purchase-driven loans generally related to greater risk of loan-application defects?
Fleming: Generally, there is more involved in qualifying a purchase borrower, particularly a first-time borrower who is new to the process. Refinance borrowers have gone through the process and know what to expect and know what documentation to provide. There are fewer entities involved in a refinance transaction, which also mitigates the risk.
GlobeSt.com: Why are loan applications from the South becoming riskier for defects?
Fleming: That's a great question. While the defect index identifies risk, it tells us much less about the cause of the risk. That said, we generally find through historical experience that economic distress and fast-rising house prices can both increase incentive for fraud, which will appear as rising risk in our index. This may be one potential source of risk in southern markets that are more dependent on the energy, manufacturing, furniture and textile industries.
GlobeSt.com: What other shifts do you anticipate in loan-application defects as we move into 2017?
Fleming: The demographic influence of Millennial first-time homebuyers will be an important driver of the defect index as the share of loan products targeted to first-time buyers increases and their preference for conventional or FHA loans differs from other types of borrowers.
GlobeSt.com: What else should our readers know about the geographical and loan-type shifts as they relate to loan-application defects and fraud risk?
Fleming: While we have already noted the distinct risk differences by loan type, it is also important to note that there are differences by property type, occupancy, investor and geography. How demand for mortgages changes the mix of these attributes will impact the overall index. A traditional market dominated by first-time homebuyers will have a different risk profile than the refinance-dominated market of the recent past.
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