What’s worse for credit score — foreclosure, short sale or deed in lieu?

Well here is the quick answer.

I get this question quite often these days. Homeowners have been led to believe that because foreclosure is so devastating to their credit scores, almost anything else is better.

This is not true — turns out there’s no significant difference in FICO score impact among foreclosures, short sales or deeds in lieu of foreclosure, said Bradley Graham, senior director of scores product management at FICO, which is the trademark credit scoring model created by Fair Isaac Corp. It’s the most widely used scoring system in the country.

And

If you apply for a loan in the future, certain lenders may look more favorably at a short sale than at a foreclosure, but the credit scoring system sees all these defaults as equally bad. Graham said that based on the analysis of the information that lenders share with credit bureaus about those forms of mortgage default, they have about the same weight when determining future risk.

There are two caveats in what lenders report to the credit bureaus, Graham said. The negative impact of a foreclosure, short sale or deed in lieu of foreclosure can be slightly less if the lender does not report a deficiency balance. A deficiency balance is the amount one may owe the bank after a property is sold.

Here's an example in numbers.

Here’s something interesting: The FICO analysis found that the higher your original score, the greater the drop and the longer it will take for your credit to recover to the same level assuming all else held constant. A consumer who started with a 780 score and did a short sale with no deficiency balance could see his score drop to a range of 655 to 675. The FICO scale goes from a low of 300 to a high of 850. A consumer who started with a score of 680 could see a drop to a range of 610 to 630.

For the consumer with the original 780 score, it could take seven years to get back to that level. But at 680, it could take just three years.

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Meet 3 Ratings Agencies That Have Already Downgraded the U.S.

I posted this information this information because a downgrade in the US credit rating usually means higher interest and mortgage rates.  These are not the big three rating agencies that really affect rates.

While the three most well-known ratings agencies, Standard & Poor's, Moody's Investors Service, and Fitch, continue to only warn about a potential downgrade, some of their smaller counterparts have already followed through. Granted, you probably haven't heard about these downgrades because the markets generally only pay attention to the big three ratings agencies. In any event, here's a look at what these smaller players had to say:

Clink here to learn about the credit rating agencies.

25% of Citi's private mortgage modifications redefaulted

I know that HAMP has been a failure and there even been claims that trial modifications applicants were artificially approved, then later decline to meet some goal for the number modifications that was never realistic.  However, there has never been a good gage on the private modification side.   Although better than HAMP, 25% is horrible.  If you reach 50% is better just to cancel the program?  Also is this typical of all banks are just Citi.

Roughly 25% of the mortgage modifications Citigroup (C: 38.38 -1.64%) completed through its own private programs redefaulted over the past two years, the bank's Chief Financial Officer John Gerspach said Friday.

Over the past nine quarters, the bank converted $5.7 billion in a trial modification into permanent status. More than three-quarters of these went through the government's Home Affordable Modification Program. Redefault rates on these HAMP workouts totaled less than 15% (not true, notes by NOCBlog).

See why further in the article.

The Treasury Department launched HAMP in March 2009 and although it resulted in a fraction of the originally estimated 3 million to 4 million modifications, it provided a skeleton around which banks could design their own programs. At the same time, HAMP experiences redefault rates far less than these private initiatives

CalculatedRisk has a breakdown of the real HAMP default rate.

Article Here

S&P puts Fannie, Freddie on ratings watch due to U.S. debt concerns

The debt market is interconnected.  If the US loses it's triple A credit rating, then it will cost the US more to borrow funds from lenders.  This extra costs will also spill into the mortgage market, since all borrowers and competing for the same dollar.  Fannie and Freddie are 79.9% owned by the US government and the mortgages they purchase then resell on the market back or "insured" by the US government. 

The New York-based ratings agency placed triple-A bond ratings held by Fannie, Freddie and other government entities on negative 'credit ratings watch' citing the firms' reliance on the U.S. government, which is facing a debt downgrade of its own.

S&P's decision to put the GSEs on negative ratings watch arrived after it placed the country's triple-A sovereign credit rating on watch in response to lawmakers' failure to reach a consensus on raising the debt ceiling.

S&P also put triple-A rated debt issued by 30 financial firms under the Temporary Liquidity Guarantee Program on negative ratings watch along with ratings tied to the Federal Home Loan Banks and U.S.-based clearinghouses.

And....

"Although we still believe that risk of a payment default on U.S. government debt obligations as a result of not raising the debt ceiling is small (though increasing), any default on scheduled debt-service payments on the U.S.'s market debt, however brief, could lead us to lower our long-term and short-term sovereign credit ratings on the U.S.," the ratings agency wrote in a report.

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S&P cuts U.S. rating outlook to negative

If the credit rating agencies downgrade the Federal US credit rating, then this has huge impacts in the mortgage industry.   As borrowing becomes more expensive in the US, then this will make borrowing money for mortgages more expensive.

The rating agency effectively gave Washington a two-year deadline to enact meaningful change, just days after House Budget Committee Chairman Paul Ryan and President Barack Obama each outlined their plans for slashing debt. S&P nonetheless kept its best rating, AAA, on the U.S.

Relative to Triple-A-rated peers, the U.S. has very large budget deficits and rising government indebtedness, and the path to addressing those issues is unclear, S&P analysts said.

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Where are mortgage rates going from here?

Two very opinionated people: Gary A. Schilling and Peter Schiff:

Click here to watch the video

Mortgage insurance doubles in 6 months

PMI is really increasing.  What happens is FHA (it's 40% of the market) goes under and now the only way to get a loan is through private mortgage insurance.  Now you have to factor mortgage costs, property taxes, homeowners insurance, AND PMI into your monthly payment.

Mortgage Guaranty Insurance Corp. (MTG: 9.55 +5.52%) wrote $1.4 billion of new primary mortgage insurance in November, nearly double the $800 million written in May.

The fall of the housing market greatly damaged the private mortgage insurance industry, putting many out of business and pushing some to the brink. In the third quarter of 2009, the company reported $517.8 million in losses. In the first nine months of 2009, the company lost more than $1 billion.

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New Ways Bankers Are Spying on You

You will need to have credit to qualify for loans now.

Big Banker is watching you—more closely than ever.

 With lenders still skittish about making new loans, credit bureaus and others are hawking services that help banks probe deeply into your financial closet. The new offerings include ways to look at your rent and utility payments, figure out your income, gauge your home's value and even rate your banking habits based on details like whether your direct deposits have stopped.

Read the whole article.  Banks are now using systems to track rent, income, and wealth.  It's getting a lot less private.

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Short sale of home similar to foreclosure in its effect on FICO score

The creators of the leading FICO score haven't revealed enough about how the formula works to predict precisely how a short sale would affect your scores. But the company has said the affects of a short sale are similar to that of a foreclosure, which would cause someone with a 780 score on the 300-to-850 FICO scale to lose 140 to 160 points. People with higher scores tend to lose more points to a black mark than people with lower scores, so you can pretty much assume that your scores will drop from excellent to near-subprime territory for a while.

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Bank of America Downgraded by Bonds on Loans: Credit Markets

This directly has to do with foreclosure-gate.

Prices on Bank of America’s credit-default swaps imply the debt is ranked Ba1 as of Oct. 13, five levels below its actual A2 grade, according to Moody’s Corp.’s capital markets research group. That’s the first time the firm’s swaps have signaled a junk ranking since May 6, the data show.

Bank of America’s $2.5 billion of 4.5 percent notes due in April 2015 fell 0.381 cent to 103.89 cents on the dollar as of 11:36 a.m. in New York, Trace data show. The bonds were issued at 99.9 cents in March to yield 215 basis points more than Treasuries. The bank has $360 billion of bonds outstanding, Bloomberg data show.

The rising price of swaps reflects potential costs that banks may face on so-called mortgage put-backs from investors. Put-backs occur when a mortgage lender is forced to repurchase a loan that’s been sold for securitization. Banks may also have to pay for legal challenges.

It's too early to tell, but it could mean higher mortgage rates or probably larger closing costs.

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FDIC May Seek More Than $1 Billion From Failed-Bank Executives

These suits will probably change the mortgage industry. The real reason these type of easy credit mortgage were created is that the investment banking industry shielded themselves from losses.  They did it by creating another product that insured the mortgages in case the borrower couldn't pay.  So the investment bank got paid in case the mortgage failed and foreclosed.  In addition, rating agencies were giving these mortgage products, packeded by the investment banks, excellent ratings.  So, what does this have to do with Indy Mac?

I'm trying to explain complicated process in a couple sentences.  Yes, Indy Mac was selling these bad loans and their underwriting processes are in question.  However, they couldn't create these mortgages if there wasn't a market to sell them to investors.

This is probably the beginning to a wider investigation in the whole chain of transactions. First, from the point were loans where underwritten by mortgage broker to the final investor that purchase the mortgage.  My guess is that the industry will be back to pre-bubble standards, since it seemed to work for 70 years.

Just like loan servicing lawsuits will change and hopefully improve the standards in that industry. 

One such letter was attached to a Nov. 24 motion filed by the FDIC in the bankruptcy case of Florida’s BankUnited Corp. The Nov. 5 letter, addressed to 15 bank directors and officers, said that BankUnited “blindly made loans to borrowers who, for the most part, were un-creditworthy, creating an unduly high risk of inevitable failure when the housing market began to decline.” The executives “breached their fiduciary duties,” the letter said.

“The process went on 20 years ago and is happening again now,” Thomas Vartanian, a partner at law firm Dechert LLP in Washington, said in an interview. “This is the way it’s going to go over the next few years as they catch up with doing these investigations and doing claims.”

FDIC Chairman Sheila Bair has said 2010 will be the peak year for failures, and the agency’s list of so-called problem lenders suggests banks will keep collapsing at an accelerated rate in coming months. The confidential list had 829 banks with $403 billion in assets at the end of the second quarter.

The suit against Bank United stated they underwrtoe bad loans when the market started to decline.  Most banks or mortgage brokers were making bad loans in 2004.  Again the regulators need to look at the whole process and all time frames.

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SEC says it lacked authority to charge Moody's

This concerning the rating agencies, which is destroying the confidence in the debt market.  Here's a quote from the article.

The financial overhaul law enacted in July calls for reducing the influence of the big three rating agencies -- Moody's, Standard & Poor's and Fitch Ratings. They were discredited in the financial crisis for giving high ratings to risky mortgage securities.

The financial overhaul law also gave the SEC authority to pursue alleged fraud by foreign affiliates of U.S. rating agencies that could have a significant effect within the U.S.

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