The U.S. Federal Housing Administration started selling distressed loans in 2012 to help communities hit hard by foreclosures while also reducing losses to its taxpayer-backed insurance fund.
Two years later, the first reports on the loan sales show the program has benefited the insurance fund more than the communities, as hedge funds and private equity-backed investors drive up prices for the loans they buy with few strings attached.
Firms such as Bayview Asset Management, a portfolio company of Blackstone Group LP, and billionaire John Grayken’s Lone Star Funds have won auctions for almost half of the $15.8 billion in nonperforming loans sold since 2010 by the FHA, according to an Aug. 28 report by the U.S. Department of Housing and Urban Development. Not-for-profit groups that want to buy the pools of mortgages say the current system favors financial buyers over those whose primary mission is aiding borrowers and communities.
“Large pools allow the Lone Stars and Bayviews to marginalize small, neighborhood-focused bidders,” said Sharon Pratt, a former mayor of Washington D.C. and chief executive officer of Home Preservation Exchange, a nonprofit focused on neighborhood stabilization. “The present-day auction system makes it very difficult for small enterprises to compete and every bit as important -- have an impact on targeted neighborhoods.”
Nonperforming loan prices have risen as investors compete to cash in on the housing recovery by turning the properties into rentals or reselling them with a markup after repossession. Rising prices for the FHA’s delinquent loans helped cut its insurance fund losses to about 53 percent of the value of the debt from 63.5 percent in 2010, according to the HUD report.
“We think it’s doing what it’s intended to do,” FHA Commissioner Carol Galante said in an interview last week. “Which is both get better recoveries for the FHA fund and at the same time give borrowers and communities additional opportunities to either stay in their home or have better outcomes than if the loans went through the foreclosure process.”
The government mortgage insurer, which focuses on backing low-downpayment loans for first-time home buyers, has been under pressure to improve its bottom line as losses on delinquent house payments depleted its reserves after the housing bubble burst. Losses of more than $50 billion on mortgages it insured caused the FHA to take a taxpayer subsidy of $1.7 billion last year, the first in its 80-year history.
About 80 percent of the FHA mortgages were sold in national pools with few restrictions on how the debt is resolved. The rest of the nonperforming loans were auctioned in Neighborhood Stabilization Outcome portfolios, which require winning bidders to offer modifications and other foreclosure alternatives on at least half of the loans.
The neighborhood stabilization pools outperformed the national ones by having more reperforming loans, more resales to new owners and a smaller share of foreclosures for mortgages resolved through May, according to the HUD report.
Nearly a quarter of the neighborhood loans resumed payments after a modification while 8.7 percent of the national mortgages reperformed.
Almost 21 percent of the neighborhood loans compared with 11.6 percent of the national ones ended with short sales, when the loan holder agreed to sell the home for less than the balance of the debt. Those transactions are less damaging to a borrower’s credit record and keep the house occupied.
About 41 percent of national loans ended with foreclosures, compared with 29 percent of the neighborhood mortgages.
Almost 23 percent of the national loans were resold to third parties that no longer report outcomes. Less than 1 percent of the neighborhood mortgages were resold.
“The results are pretty stunning,” said Gary McCarthy, a partner in HMC Assets LLC, a winner of six HUD neighborhood stabilization portfolios with an unpaid balance of $496 million. “The NSO pools had far superior results.”
HMC, which buys loans as Corona Asset Management, has rehabilitated dozens of abandoned homes in North Las Vegas, Nevada, from a portfolio of 217 mortgages purchased this year, many of which have become rentals for families serving at Nellis Air Force Base, he said.
“It’s not just about recovering dollars,” McCarthy said in an interview from his office in Redondo Beach, California. “It’s about trying to see real estate recover and to lessen the impact of default on communities.”
HUD plans to auction 15,000 loans with an unpaid balance of $2.3 billion this month, according to Debt Exchange, which manages the sales. Those are all national without the neighborhood stabilization requirements.
FHA “would love to be doing more” neighborhood sales “where it makes sense,” because they have better outcomes for more borrowers, Galante said. That’s not always feasible, because the loans must be in geographically-concentrated areas with a small number of servicers, she said.
“It’s just having enough in an area that you get to a reasonable economy of scale,” she said.
The FHA insured more than 437,000 seriously delinquent loans as of June 30, meaning they were at least 90 days late or in foreclosure, according to the Mortgage Bankers Association. The 91,114 mortgages sold so far averaged 31 months delinquent.
When the FHA announced the neighborhood stabilization program, it pledged to work with for-profit and nonprofit investors who “have shown great interest in using this program to help borrowers in their community find affordable solutions as quickly as possible,” Galante said in a 2012 press release.
Nonprofits and community development organizations have won auctions for 1.4 percent of the soured debt, mostly in early rounds of the sales. They didn’t win any of the 10 neighborhood stabilization pools sold in June with $695 million in debt on 4,224 homes.
“This market has become uber competitive,” said Wayne Meyer, president of New Jersey Community Capital, a not-for-profit community-development financial firm, which won two auctions in 2012 and none since.
Even small deals were awarded to for-profit buyers. New Jersey Community Capital lost its bid for 108 loans in Cumberland County, New Jersey, with an unpaid balance of $16.2 million. Kondaur Capital Corp., a mortgage investor and servicer affiliated with hedge fund manager Tourmalet Advisors LP, was the winning bidder on that group as well as pools in Chicago and Detroit this year.
“We lost to Kondaur,” Meyer said. “Now we are hoping to find a way we can work with them.”
The properties in Cumberland County, which suffered damage from Hurricane Sandy, were three- to five-years delinquent, according to Peter Grof, deputy to the president at New Jersey Community Capital.
“Foreclosures tend to lead to disinvestment, as other homeowners also face foreclosure, property values fall, homeowners relocate, and properties become vacant and community hazards,” Grof said in an e-mail. “We would expect that these conditions would only be amplified when destroyed or substantially storm-damaged homes are now also found on the same blocks as the many foreclosed homes.”
Kondaur CEO John Kontoulis didn’t reply to phone messages seeking comment. Kondaur’s winning bids paid 52 percent of the unpaid balance on the Cumberland debt, 49 percent on the Detroit pool and 35 percent in Chicago.
Galante said it’s always been difficult for nonprofits to win bids because few have experience with mortgage servicing. It’s also challenging for them to raise capital.
“I do believe there are things that we can do, and we have been talking to the not-for-profit community about those things to see if we can increase their participation,” she said in a telephone interview.
Not-for-profits had an even better record of averting foreclosures than for-profit companies in the neighborhood stabilization pools, according to Sarah Edelman, a policy analyst at the Center for American Progress, a Washington-based organization aligned with Democrats.
“Why nonprofits like New Jersey Community Capital have been so effective is that they have a very comprehensive outreach process,” said Edelman, lead author of a CAP report last week on the loan sales. “They have trusted relationships with homeowners. They are able to engage the homeowners and they’re patient enough to keep on working at it until they make the modification that makes the best sense.”
HUD should offer separate pools for nonprofit organizations or give nonprofits a chance to match bids by private companies to help level the playing field in the auctions, according to the report Edelman co-wrote. It should also expand the share of loans sold in neighborhood stabilization pools.
“Going forward, FHA should make programmatic changes that encourage better outcomes across all pools,” the report said. The growing demand for the mortgages gives FHA added leverage to attach conditions to the sales, the group noted.
For-profit companies can partner with nonprofits and offer comparable assistance to borrowers and communities, according to Shaun Ahmad, president of 25 Capital, which won four pools with 2,177 homes and an unpaid balance of $372 million in HUD’s June sale. The Charlotte, North Carolina-based mortgage firm is a portfolio company of London-based Tavistock Investments Plc and has managed $2 billion in nonperforming loans since 2008.
In addition to lacking capital to compete at auction, nonprofits often don’t have the analytical capability and resources to manage large portfolios of delinquent loans after purchase, Ahmad said.
“You don’t really have that much infrastructure in the nonprofit world to deal with the magnitude of the problem that we face,” Ahmad said.
Getting the loans to reperform is the most profitable outcome followed by other foreclosure alternatives, he said.
“For some of our competitors, buying a nonperforming loan is a cheap way to get to the property and turn it into a rental,” said Ahmad, whose company has managed $2 billion in non-performing loans since 2010. “That’s not what we’re trying to do.”
New Jersey Community Capital also offers housing counseling so borrowers are equipped to handle all of their financial obligations and continue making payments.
Institutional investors are unlikely to offer reductions as deep as nonprofits, Meyer said. Many for-profit firms prefer principal forbearance, which means that they defer payment of a portion of the principal until the end of the loan, money the borrower still has to pay back, he said.
The largest buyers have been Lone Star Funds with $3.9 billion in the national pools and Blackstone’s Bayview with $2.4 billion in national portfolios and $908 million in the neighborhood pools. Bayview and Lone Star declined to comment.
Other big buyers include Oaktree Capital Management LP, a Los Angeles-based alternative investment fund; Selene Finance LP, founded by mortgage-bond pioneer Lew Ranieri; Royal Bank of Scotland Group Plc; and asset managers such as Pacific Investment Management Co. and Neuberger Berman Group LLC.
“It’s a missed opportunity,” Edelman said. “If FHA can get loans in the hands of buyers who are committed to neighborhood stabilization, it’s going to be better for the homeowners, the neighborhoods, and FHA.”