October 13, 2011 (Chris Moore)
An estimated 35 percent of all mortgage defaults are strategic whereby borrowers who are financially capable of making their mortgage payment choose to default. Strategic defaults account for more than $20 billion of all defaults annually and are expected to persist for the foreseeable future.
Earlier in the year FICO Labs announced a new technology that substantially improves lenders’ ability to identify borrowers at risk of strategic default on their mortgage. The new technology is now being used by four of the top 10 mortgage servicers.
The technology allows mortgage servicers to recognize possible problem borrowers earlier so that they may take preventative action and reduce the costly impact of strategic defaults.
In the past, lenders used the degree of home price depreciation as the basis for predicting defaults. But new research shows that borrowers whose homes have lost the most value are only twice as likely to default as those whose homes have lost the least value.
Strategic defaulters also tend to be savvier managers of their credit than the general population, with higher FICO credit scores, lower revolving credit balances and maintaining better control over their credit card usage.
FICO Labs’ technology has demonstrated the ability to identify borrowers who are over 100 times more likely to default strategically than other borrowers.
“Mortgage payment patterns have shifted, and some borrowers are intentionally defaulting on their mortgages because they believe it is in their best financial interest, and because they believe the consequences will be minimal,” said Dr. Andrew Jennings, chief analytics officer at FICO and head of FICO Labs. “Before mortgage servicers can work effectively with potential strategic defaulters, they must first be able to identify them. Our new research shows it is possible for servicers to find those at greatest risk of strategic default, both to prevent losses and to prevent borrowers from making a decision that will damage their credit future.”
FICO Labs research found that among current borrowers who are not delinquent on any loans:
– The riskiest borrowers were found to be 110 times more likely to commit a strategic default than the least riskiest borrowers.
– The riskiest 20 percent of borrowers committed 67 percent of the strategic defaults. So a servicer could reach two-thirds of those who would commit strategic default by targeting just 20 percent of its borrowers.
“Distressed borrowers are increasingly likely to see strategic default as a viable or necessary option, but such decisions are devastating to not just their own credit profiles but also lenders’ portfolios and the economy as a whole,” said Greg Pelling, vice president of scores and analytics at FICO. “Fortunately, the technology exists to reverse the trend toward strategic defaults. Our goal is to help the industry implement that technology as quickly as possible.”
Tags: FICO, strategic defaults, mortgage payments, mortgage defaults, credit scores, borrowers at risk, credit cards, credit balances