Turbulence in Lending, Not a Trend

The Federal Housing Administration (FHA) plays a critical role in the housing market by guaranteeing financing to underserved portions of the population and by providing support to the broader housing market during cyclical downturns. In late 2016, a measure of delinquency hinted at budding stress for the FHA, but recent data suggests that conditions have improved.

In the 4^th quarter of last year, the 30-day delinquency rate on FHA, VA, and conventional loans all rose relative to the 4^th quarter of 2015. The FHA in particular jumped to 5.05% from 4.72% a year earlier according to the Mortgage Bankers Association. The 30-day delinquency rate measures the number of borrowers who are 30-days late on their mortgage payment and serves as an early signal that a borrower may default on their loan. An increase in delinquencies could signal a coming market decline and was cited by some to argue against the FHA’s fee reduction in January of this year.

As depicted above, the FHA’s 30-day delinquency rate is highly cyclical rising sharply in the fall and plummeting each spring. Strong spring hiring patterns as well as greater use of tax refunds by FHA borrowers to “cure” or catch up on their lapsed payment have been credited for this seasonal improvement. The chart above also depicts the steady decline in early-stage delinquencies from 2012.

Both time series depicted in the chart above are derived from data published by the FHA. The red line comes from the FHA’s monthly Neighborhood Watch report, as culled by consultant Brian Chappelle of Potomac Partners LLC. The blue line comes from the FHA’s Single-Family Loan Performance Trends Report. The two differ slightly in magnitude, but their trends tracks closely.

However, an important difference between these two series is that the Neighborhood Watch data is released one to two months earlier than FHA’s performance report. Consequently, the Neighborhood Watch data provides an early indicator of performance in the entire FHA portfolio. The chart above depicts the last five years of 30-day delinquency data by month from Neighborhood Watch. The seasonal pattern is apparent with early delinquencies rising through the fall. The measure jumped in late 2016 (orange line) eclipsing the level for 2015 and even 2013. However, the rate has since fallen sharply (turquoise) and as of March stood at 3.82 percent, its lowest level in 5 years. Likewise, the Performance Report shows a sharp decline in delinquencies for January and February, but the data for March that may corroborate this robust improvement will be published in the coming weeks. It is also worth noting that the 2015 pattern was unique in that the normal seasonal peak was not in 2015, but in January of 2016, which accentuates the difference between the 4^th quarters of 2016 and 2015.

The sudden rise in early defaults on FHA, VA and conventional loans last fall was a surprise given the relative economic strength and low unemployment rate. Furthermore, the total delinquency rate, which includes borrowers who are closer to defaulting, is near a decade low. Early default measures now suggest an improvement in the 12-month trend but the question of what drove the market-wide uptick in delinquencies last fall remains.