May 2018 Loan Application Defect Index

Good Timing: Loan Application Defect and Fraud Risk Drops as Home Purchases Take Higher Share of Mortgage Market

"It's likely that all of the investment in more digitized, automated, and efficient mortgage manufacturing and underwriting technology that's been made in recent years is beginning to pay off," says Chief Economist Mark Fleming.

The First American Loan Application Defect Index showed that in May 2018:

  • The frequency of defects, fraudulence and misrepresentation in the information submitted in mortgage loan applications decreased by 2.4 percent compared with the previous month.
  • Compared with May 2017, the Defect Index decreased by 3.6 percent.
  • The Defect Index is down 21.6 percent from the high point of risk in October 2013.
  • The Defect Index for refinance transactions remained the same compared with the previous month, and is 4.4 percent higher than a year ago.
  • The Defect Index for purchase transactions decreased by 4.6 percent compared with the previous month, and is down 7.8 percent compared with a year ago.

Mark Explains the Loan Application Defect Index

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

  1. Arkansas (+12.0%)
  2. Wyoming (+7.5%)
  3. New Mexico (+7.5%)
  4. California (+5.2%)
  5. Virginia (+5.2%)

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

  1. South Carolina (-20.4%)
  2. Alabama (-17.2%)
  3. Vermont (-15.3%)
  4. Minnesota (-14.9%)
  5. Louisiana (-14.0%)

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

  1. Virginia Beach, VA (+20.0%)
  2. Los Angeles (+15.9%)
  3. Orlando, FL (+13.4%)
  4. San Diego (+12.7%)
  5. Memphis, TN (+8.0%)

Among the largest 50 Core Based Statistical Areas (CBSAs), there are three markets with the highest year-over-year decrease in defect frequency.

  1. Birmingham, AL (-22.4%)
  2. Austin, TX (-19.3%)
  3. Pittsburgh (-16.7%)
  4. Raleigh, NC (-16.3%)
  5. Minneapolis (-16.3%)

"It's likely that all of the investment in more digitized, automated, and efficient mortgage manufacturing and underwriting technology that's been made in recent years is beginning to pay off," said Mark Fleming, chief economist at First American.

Loan Application Defect and Fraud Risk Drops as Home Purchases Take Higher Share of Mortgage Market

By now, everyone in the mortgage industry is aware that we are entering a market that will be dominated by purchase demand for the next several years. According to the latest Mortgage Bankers Association forecast, refinance transactions will make up 28 percent of total mortgages originated in 2018 and is forecasted to drop to 23 percent by 2020. This is, of course, due to the current environment of increasing mortgage rates that follows years of persistently low rates. Until last month, the average rate for a 30-year fixed mortgage had remained below 4.5 percent for 80 consecutive months. And since most homeowners have benefited from the low-rate environment, they now have little financial incentive to refinance, or sell and buy again. With mortgage rates continuing to rise, the financial value of keeping their current low-rate mortgages is likely to increase.

The silver lining? Despite the aforementioned obstacles, consumers will continue to buy. Richard Thaler, Nobel Prize-winning economist, is famous for the analogy that we are more like Homer Simpson than Spock when making economic decisions. Lifestyle decisions will still incentivize people to buy, and sometimes that beautiful kitchen is just too hard to resist! Again, according to the Mortgage Bankers Association forecast, the purchase market is expected to grow even as mortgage rates rise, largely on the strength of first-time homebuyer demand.

With this fact in mind, the most important news in this month's Loan Application Defect Index (LADI) is that the Defect Index for purchase transactions decreased by 4.6 percent compared with the previous month, is down 7.8 percent compared with a year ago, and has declined almost 10 percent in just the past five months. There's no better time to have loan application misrepresentation, defect and fraud risk on purchase transactions on the decline than when the market share of purchase transactions is rising.

It's likely that all of the investment in more digitized, automated, and efficient mortgage manufacturing and underwriting technology that's been made in recent years is beginning to pay off. Now the question is, how much lower will it go?

Methodology

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 wealth management services. With total revenue of $5.8 billion in 2017, the company offers its products and services directly and through its agents throughout the United States and abroad. In 2018, First American was named to the Fortune 100 Best Companies to Work For® list for the third consecutive year. 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. © 2018 by First American. Information from this page may be used with proper attribution.