August 2018 Loan Application Defect Index

Do Hurricanes Influence Mortgage Fraud Risk?

"While the devastating impacts from Hurricane Florence in the Carolinas continue to be assessed, it should come as no surprise that in the wake of major natural disasters, the risk of mortgage loan application fraud increases," says Chief Economist Mark Fleming.

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

  • The frequency of defects, fraudulence and misrepresentation in the information submitted in mortgage loan applications increased by 1.3 percent compared with the previous month.
  • Compared to August 2017, the Defect Index decreased by 8.3 percent.
  • The Defect Index is down 24.5 percent from the high point of risk in October 2013.
  • The Defect Index for refinance transactions is the same as the previous month and is 1.4 percent lower than a year ago.
  • The Defect Index for purchase transactions remained unchanged compared with the previous month and is down 13.2 percent compared with a year ago.

Mark Explains the Loan Application Defect Index

0:58

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

  1. Hawaii (+6.5%)
  2. Maine (+4.2%)
  3. California (+1.3%)

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

  1. South Carolina (-21.9%)
  2. Minnesota (-20.7%)
  3. Vermont (-19.2%)
  4. Arkansas (-17.9%)
  5. North Dakota (-17.8%)

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 (+14.1%)
  2. Los Angeles (+11.0%)
  3. Orlando, FL (+11.0%)
  4. San Diego (+6.3%)
  5. Houston (+6.0%)

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

  1. Raleigh, NC (-23.7%)
  2. Minneapolis (-23.5%)
  3. Birmingham, AL (-21.4%)
  4. St. Louis (-18.9%)
  5. Boston (-17.6%)

"Unfortunately, on top of the damage to tens of thousands of homes, historical data indicates that hurricanes and loan application defect risk go hand-in-hand. Hurricanes, and especially the flooding associated with these natural disasters, create the potential and opportunity for significant misrepresentation of collateral condition," said Mark Fleming, chief economist at First American.

Rising Mortgage Fraud Risk Linked to Hurricanes

While the overall risk of loan application defects, fraud, and misrepresentation have been on the decline, there are regions with the potential for higher defect risk due to the impact from Hurricane Florence. The expected damage to housing is staggering. Based on the National Hurricane Center storm surge estimate, we expect that more than $13 billion worth of homes, according to estimates of current market value, are likely to be flooded with at least a foot of water. Nearly 80 percent of these homes are expected to be in North Carolina. In total, approximately 50,000 residential housing units may be damaged.

Unfortunately, on top of the damage to tens of thousands of homes, historical data indicates that hurricanes and loan application defect risk go hand-in-hand. Hurricanes, and especially the flooding associated with these natural disasters, create the potential and opportunity for significant misrepresentation of collateral condition.

In the aftermath of Hurricane Sandy in late October 2012, mortgage defect, fraud and misrepresentation risk, as measured by the Defect Index, increased 16.5 percent over four months in the New York metropolitan area. Fraud and misrepresentation risk remained elevated for an entire year after the hurricane, before returning to a level consistent with the national index in late 2013.

Similarly, before Hurricanes Harvey and Irma hit, mortgage risk in Texas and Florida was decreasing. However, following the storms, the trend reversed course in September 2017. Due to flooding in Houston, the Defect Index experienced an 11.2 percent increase in mortgage defect, fraud and misrepresentation risk over 3 months.

Fraud Risk in Carolinas Likely to Increase in the Months Ahead

While the devastating impacts from Hurricane Florence in the Carolinas continue to be assessed, it should come as no surprise that in the wake of major natural disasters, the risk of mortgage loan application fraud increases. According to the Defect Index, defect risk levels in the Carolinas were already trending up in recent months, and one should be on the lookout for further increases in risk in the markets impacted.

Graph: Monitoring the Carolinas for Hurricane Florence Impact

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.