|Mortgage loan buybacks are exacting a devastating toll on subprime lenders -- even forcing some companies out of business.
"It's the hot topic of the day," Joseph Lydon, president and COO of Accredited Home Lenders, said during a recent conference call with investors. "There is some renewed focus by the buyers of those loans, the investors, definitely scrutinizing those loans more than in the past."
"We don't think the repurchase activity is in crisis," Lydon said on an archived Webcast of the conference, "But we are managing it aggressively."
San Diego-based Accredited saw its repurchases jump from $17.2 million in the first quarter of 2005 to nearly $52 million in the third quarter of last year.
During its presentation at the conference, which was sponsored by Friedman Billings Ramsey Group, Accredited said borrowers were defaulting on loans because they inflated their income on loan applications and had poor loan-to-value ratios and bad credit scores.
"Any combination ... causes multiple impact," the company said.
The trend started much earlier than last month.
In August H&R Block said all of its business segments performed well except mortgage lending unit Option One Mortgage Corp.
"Except for Mortgage Services, each of our business segments performed in line with expectations," Mark A. Ernst, chairman and chief executive officer, said in a statement. "But that was overshadowed by the impact of recent increases in mortgage loan repurchases."
Block lost $131.4 million during the second quarter, according to its earnings release.
"The quarter's net loss includes a total provision for losses of $102.1 million reflecting the estimated recourse liability recorded by Option One Mortgage Corp. for loan repurchases and premium-recapture reserves," the company said.
Ernst pledged that the company was responding to the problem.
"We've modified our operating procedures and loan products to improve loan performance and profitability," Ernst said. "We have tightened underwriting criteria and pricing guidelines -- especially in parts of the Midwest and other regions where delinquencies have been highest -- while continuing to reduce origination costs."
But some companies, such as Ownit Mortgage Solutions, were unable to manage the problem. The Agoura Hills, Calif., company shut its doors abruptly last week, putting 600 employees out of work and cutting off 11,500 brokers.
Ownit had hoped investor Merrill Lynch would come to its rescue. But Merrill instead acquired First Franklin from National City Corp.
Harbourton Capital Group recently ceased funding new loans through its Harbourton Mortgage Investment Corp.
Virginia-based Harbourton said it was "forced to take these actions when it was unable to satisfactorily resolve mortgage repurchase claims asserted by selected investors that had purchased mortgage loans."
Also in Virginia last month, Alliance Bankshares Corp. shut down its Alliance Home Funding LLC mortgage banking subsidiary
And there have been other casualties.
Sebring Capital Partners LP, a Texas wholesale lender, stopped taking mortgage applications in December. So did Mortgage Lenders Network USA of Middletown, Conn., another wholesale lender.
Repurchases have also led to litigation.
In a legal action being fought in federal court in Dallas, EMC Mortgage Corp. accuses defendant MortgageIT of owing it $70 million in buybacks for about 587 subprime loans.
MortgageIT, which has denied the allegations, did not repurchase the mortgages when they went into default or prepaid, EMC claims.
But accelerated repurchases aren't all bad, according to Fitch Ratings.
Rather than indicating an acceleration of default trends, the increase in repurchasing activity is a "self-correcting mechanism" and a reality check for mortgage originators, the agency said in its Mortgage Loan Repurchases: Reality Check or Troubling Trend? report last year.
Fitch believes secondary market behavior was largely responsible for the unexpected repurchase provisions recognized by some originators. "The increase in repurchase activity appears to be more a result of loan buyers consistently using their right to put loans back to sellers."
In response, "mortgage companies are quickly playing catch-up with the changing rules of the game" by tightening underwriting guidelines to prevent repurchase requests as a result of [early payment defaults], said Vincent Arscott, a Fitch director, in a written statement.
However, Fitch has since warned that the asset performance of subprime, home equity and specialty products will decline next year and ratings environment will be negative. The agency expects delinquencies to rise by at least an additional 50 percent from current levels throughout the next year.
That sentiment was echoed in a recent report from UBS.
"Lower credit, particularly in the form of risk-layering, is responsible for a disproportionately large share of the deterioration" that has occurred in nonagency performance, UBS said. "Generally speaking, 2006 vintage performance is significantly worse than 2003-05 vintages," except for prime fixed-rate mortgages, but "credit deterioration is more pronounced for Alt-A mortgages" and ARMs.