July 2016 Loan Application Defect Index

Refinance Boom and Compliant Loan Production Processes Keeping Loan Defect Rate at Low Point

"Refinance activity, fueled by historically low mortgage rates, combined with improved loan manufacturing processes are producing the lowest level of loan defects and misrepresentation that we have seen in recent history," says Chief Economist Mark Fleming.

The First American Loan Application Defect Index, which estimates the frequency of defects, fraudulence and misrepresentation in the information submitted in mortgage loan applications, decreased 2.8 percent in July as compared with June and decreased 16.7 percent as compared with July 2015. The Defect Index, which reflects estimated mortgage loan defect rates over time, by geography and by loan type, is down 31.4 percent from the high point of risk in October 2013.

The Defect Index continues to improve as the share of refinance activity in the market remains strong. According to the latest MBA mortgage applications survey, the refinance share of mortgage applications remains above 60 percent. The housing market continues to benefit from historically low mortgage rates, which are driving lower defect-risk refinance activity.

The average rate for a 30-year, fixed-rate mortgage fell in July to 3.44 percent from 3.57 percent in June. Other than between October 2012 and January 2013, this marks the lowest mortgage rates have been since Freddie Mac began tracking mortgage rates in 1971. To the extent that lower defect-risk refinance applications continue to occupy a large share of the mortgage market, the overall index will benefit.

The Defect Index for refinance transactions declined 1.7 percent month-over-month, and is 18.1 percent lower than a year ago. The Defect Index for purchase transactions declined 1.3 percent month-over-month, and is down 13.2 percent compared to a year ago. Since defect risk for both purchase and refinance transactions peaked in late 2013, defect risk on refinance transactions continues to decline much more than defect risk for purchase transactions, declining 41.0 percent as compared to 24.0 percent for purchase transactions.

States with the highest year-over-year increase in defect frequency:

  1. Maine (+16.7%)
  2. North Dakota (+11.9%)
  3. Missouri (+5.6%)
  4. Montana (+2.6%)

States with the highest year-over-year decrease in defect frequency:

  1. Michigan (-33.0%)
  2. Florida (-24.5%)
  3. New Mexico (-21.0%)
  4. Connecticut (-20.9%)
  5. New Hampshire (-20.3%)

Among the largest 50 Core Based Statistical Areas (CBSAs), the only market with a year-over-year increase in defect frequency:

  1. St. Louis (+4.1%)

Among the largest 50 Core Based Statistical Areas (CBSAs), the five markets with the highest year-over-year decrease in defect frequency:

  1. Detroit (-37.0%)
  2. Louisville/Jefferson, KY (-27.4%)
  3. Buffalo, NY (-26.6%)
  4. Orlando, FL (-25.8%)
  5. Jacksonville, FL (-25.3%)

"The benefits in compliant loan production processes are becoming more clearly evident, particularly for refinance transactions, in the big declines we are observing in loan application and mortgage defect risk," said Mark Fleming, chief economist at First American. "Refinance activity, fueled by historically low mortgage rates, combined with improved loan manufacturing processes are resulting in higher quality loan applications with the lowest level of defects and misrepresentation that we have seen in recent history."

The Charms of Southern Living Elevate Risk

Monitoring the mortgage market for loan application defect and, particularly, misrepresentation risk is always a challenge as "hot spots" can emerge very quickly. This month, a new state has emerged and caught our attention -- South Carolina.

South Carolina is currently the second highest risk state in the nation and, among the 100 largest CBSAs, hosts three of the top five riskiest markets — Columbia, Charleston and Greenville. The emergence of risk in these markets has been swift. For example, Columbia tracked consistently with the national average for loan application defect and misrepresentation risk until late 2015, but over the course of this year has reversed course. Defect risk in Columbia has increased 14.5 percent in the last 12 months.

South Carolina, like much of the South, is benefiting from increased demand for real estate of all types, as people are attracted by the relatively low cost of housing compared to markets in the West or Northeast. In fact, the combination of low interest rates and income growth in South Carolina has caused real, consumer buying-power adjusted, house prices to decline 1.1 percent in July, as compared to a year ago. More affordable house prices continue to support growing demand.

"The charms of southern living may be elevating loan application defect and misrepresentation risk. In particular, as we saw in the housing boom, misrepresentation risk tends to rise in hot markets," said Fleming. "As South Carolina, and the South more broadly, experiences a housing boom driven by strong affordability, misrepresentation risk is on the rise and contributing to the emergence of the state as a hot spot. It's not just the summer heat that's making South Carolina a hot market."


The First American Loan Application Defect Index estimates the level of defects detected in the information submitted in mortgage loan applications processed by the First American FraudGuard® system. The index is based on the frequency with which defect indicators are identified. The Defect Index moves higher as greater numbers of defect indicators are identified. An increase in the index indicates a rising level of loan application defects. The index, nationally and in all markets, is benchmarked to a value of 100 in January 2011. Therefore, all index values can be interpreted as the percentage change in defect frequency relative to the defect frequency identified nationally in January 2011.

About First American

First American Financial Corporation (NYSE: FAF) is a leading provider of title insurance, settlement services and risk solutions for real estate transactions that traces its heritage back to 1889. First American also provides title plant management services; title and other real property records and images; valuation products and services; home warranty products; property and casualty insurance; and banking, trust and investment advisory services. With revenues of $5.2 billion in 2015, the company offers its products and services directly and through its agents throughout the United States and abroad. More information about the company can be found at www.firstam.com.

Opinions, estimates, forecasts and other views contained in this page are those of First American's Chief Economist, do not necessarily represent the views of First American or its management, should not be construed as indicating First American's business prospects or expected results, and are subject to change without notice. Although the First American Economics team attempts to provide reliable, useful information, it does not guarantee that the information is accurate, current or suitable for any particular purpose. © 2016 by First American. Information from this page may be used with proper attribution.