Restructured Mortgages Still a Problem

 | Dec 11, 2012 | 4:00 PM EST  | Comments
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Stock quotes in this article:

wfc

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bac

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jpm

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c

I've written several columns this year about nonperforming loans (NPL) in the residential mortgage area this year, so let's look now at where the money centers are with respect to Troubled Debt Restructuring (TDR).

The Obama administration has implemented 12 different loan modifications programs in the past four years. They have all failed in multiple ways. The biggest single issue with their failure is that a large percentage of modified loans become nonperforming again after they are restructured, which makes the money centers reluctant to pursue the process.

The majority of the NPL and TDR are concentrated at Wells Fargo (WFC), Bank of America (BAC), JPMorgan Chase (JPM) and Citigroup (C). Each has pursued the restructuring process with different strategies and different time frames over the past four years. Citigroup was the first to aggressively pursue the restructuring route, followed by JPMorgan, Bank of America and, finally, Wells Fargo.

One of the most interesting aspects of the process was that BAC did not really begin to restructure aggressively until this year. Its strategy was to pursue the traditional foreclosure and recovery route, which it pursued more aggressively than the other money centers. The issue BAC ran into last year was that its recovery rate on first trust mortgages sent through foreclosure and recovery fell to a shocking low 5% of the residual loan balance. This was one of the major reasons for the plunge in BAC's stock price last year.

Prior to the collapse of Lehman Brothers and the housing bubble, the normal recovery rate on first trust mortgages was in the range of 75%. The plunge in BAC's recovery rate was the primary reason for all of the money centers halting foreclosures and allowing their nonperforming loan portfolios to rise instead. It also made loan modifications a more preferable route for the money centers than was the case since the crisis began.

In the past 12 months, the value of TDR at BAC and WFC has increased by 50%. It's remained relatively constant at C because it pursued TDR more aggressively than the others. JPM's TDR portfolio has actually decreased by about 30% in the past year. The percentage of restructured loans that become nonperforming again following restructuring is very high at all four banks, though. At WFC, the percentage of loans that re-default is 32%, it's almost 50% at JPM, 35% at BAC, and it's 19% at C.

The banks are essentially caught between taking losses now by way of foreclosure and recovery or taking losses over time by repeatedly restructuring the same mortgages for the same borrowers. Recovery rates are currently still low, so until housing demand is strong enough to absorb more foreclosure inventory coming to market, the banks will probably choose to continue the current restructuring trend.

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