Housing Market Has Held Up Well in This Recession, but Some Issues Raise Concern--Recent trends in mortgage underwriting are of particular interest, as an estimated $2 trillion in mortgage debt, approximately one-third of the total outstanding, was underwritten during 2001. Nonconstruction residential mortgages traditionally have represented one of the better-performing loan classes during prior downturns. The level of credit risk, however, may be higher this time around because the mortgage lending business has changed since the last downturn. This article examines these changes, including increased involvement by insured institutions in the higher-risk subprime credit market, the acceptance of higher initial leverage on home purchases, and greater use of automated underwriting and collateral valuation processes, which have not been recession-tested.
Home price softening could have an adverse effect on residential construction and development (C&D) and mortgage portfolios. In the aggregate, the level of risk appears modest. However, insured institutions with significant C&D loan exposures in markets that experienced ongoing residential construction during 2001, despite slowing local economies, are at higher risk. Weakening home prices in certain markets could hurt loan quality in selected markets. The San Francisco Bay Area stands out as a place to watch in this regard.
By Scott Hughes, Regional Economist Judy Plock, Senior Financial Analyst Joan Schneider, Regional Economist Norm Williams, Regional Economist
Atlanta--The current downturn may adversely affect the Region's insured institutions that have relied on rapid economic growth, such as those experiencing their first recession or institutions with concentrations in traditionally higher risk loans.
Boston--Interest rate risk appears to be increasing, especially for the Region's smaller savings institutions. Managing this risk will involve a trade-off between short-term profits and long-term earnings stability.
Chicago--Despite years of economic restructuring, the recession is still felt keenly in the Region. Rapidly falling interest rates improved margins, but may challenge asset/liability management strategies.
Dallas--Slowing employment growth and overbuilding may contribute to weakening of housing price growth in the Denver and Austin MSAs. Leaner collateral positions could heighten the level of risk in mortgage lending.
Kansas City--Layoffs in the aircraft manufacturing industry since September 11, 2001, have hurt the Wichita economy. As the Region's commercial real estate sector has weakened, insured institutions have increased CRE lending exposures.
Memphis--Credit quality deterioration remains a major concern for many of the Region's insured institutions. In addition, continued interest rate volatility could challenge interest rate risk management and pressure earnings performance.
New York--The aftermath of September 11, 2001, further weakened the Region's economic outlook. Insured institutions appear better positioned to weather this economic downturn than the last recession; however, credit quality and interest rate risk challenges lie ahead.
San Francisco--Declining demand for real estate could signal the potential for credit quality weakening among the Region's construction lenders.