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Tough lending standards have cut the risk of mortgage defaults lower than they have been in nearly a decade, but high unemployment is making it premature to declare victory in the mortgage crisis.

Mortgage Default Risk Nears Ten Year Low

Tough lending standards have cut the risk of mortgage defaults lower than they have been in nearly a decade, but high unemployment is making it premature to declare victory in the mortgage crisis.

The UFA Default Risk Index for the second quarter of 2013 rose to 106 from last quarter’s revised 97 in our baseline scenario. Under current economic conditions, investors and lenders should expect defaults on loans currently being originated to be 6 percent higher than the average of similar loans originated in the 1990s, due solely to the local and national economic environment. That’s a key finding of the latest UFA Mortgage Report by University Financial Associates of Ann Arbor, Michigan.

“These readings on the Index are the lowest in almost 10 years, but we may not be able to declare the mortgage crisis over yet,” said Dennis Capozza, who is the Dale Dykema Professor of Business Administration in the Ross School of Business at the University of Michigan, and a founding principal of UFA.

“Although the default risks on newly originated mortgages are similar to the average of the 1990s, the current situation is not ‘typical’ or ‘normal’. In today’s market the negative effect of high unemployment rates is being offset by very low mortgage rates and accommodative monetary policy. In most recoveries there is usually a short transitional period similar to the current situation; but it is not ‘common’ or ‘typical’,” Capozza said.

The UFA Default Risk Index measures the risk of default on newly originated prime and nonprime mortgages. UFA’s analysis is based on a “constant-quality” loan, that is, a loan with the same borrower, loan and collateral characteristics. The Index reflects only the changes in current and expected future economic conditions, which are much less favorable currently than in prior years.

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