Refinance Boom Decreasing Fraud Risk, According to First American’s Loan Application Defect Index

As the mortgage market composition continues to shift toward refinance transactions in 2019, the risk of defect, fraud and misrepresentation will continue to decline, says Chief Economist Mark Fleming


August 29, 2019, Santa Ana, Calif.

First American Financial Corporation (NYSE: FAF), a leading global provider of title insurance, settlement services and risk solutions for real estate transactions, today released the First American Loan Application Defect Index for July 2019, which estimates the frequency of defects, fraudulence and misrepresentation in the information submitted in mortgage loan applications. The Defect Index reflects estimated mortgage loan defect rates over time, by geography and loan type. It is available as an interactive tool that can be tailored to showcase trends by category, including amortization type, lien position, loan purpose, property and transaction types, and can provide state- and market-specific comparisons of mortgage loan defect levels. 

July 2019 Loan Application Defect Index

  • The frequency of defects, fraudulence and misrepresentation in the information submitted in mortgage loan applications decreased by 5.0 percent compared with the previous month.

  • Compared to July 2018, the Defect Index remained the same.

  • The Defect Index is down 25.5 percent from the high point of risk in October 2013.

  • The Defect Index for refinance transactions decreased by 4.2 percent compared with the previous month, and remained the same compared with a year ago.

  • The Defect Index for purchase transactions decreased by 3.6 percent compared with the previous month, and is up 1.3 percent compared with a year ago.   

Chief Economist Analysis: Fraud Risk for Purchase Transactions Falls for a Fourth Consecutive Month

“The Loan Application Defect Index for purchase transactions continued its downward trend, declining 3.6 percent in July compared with June, the fourth consecutive month defect risk in purchase transactions has fallen,” said Mark Fleming, chief economist at First American. “The Defect Index for refinance transactions also fell 4.2 percent compared with the previous month.

“The overall Defect Index, which includes both purchase and refinance transactions, fell 5.0 percent compared with last month, and is at the same level as one year ago. Indeed, the only month the overall Defect Index has been lower was in October 2016,” said Fleming. “Before we celebrate the decline in fraud risk, it’s important to understand the underlying shifts in the mortgage market that may be driving this decline.”  

More Refinances, Less Fraud

“The 30-year, fixed mortgage rate has been declining since December 2018, and in July 2019 reached 3.8 percent, the lowest rate since November 2016. As mortgage rates fall, the incentive to refinance increases,” said Fleming. “For many homeowners, the most important consideration on whether to refinance or not is if the mortgage rate is sufficiently lower than their existing rate.

“The prevailing mortgage rate of 3.8 percent in July triggered a 25-percent jump in refinances month over month and a 60-percent jump compared with July 2018,” said Fleming. “Why does this matter for fraud risk? Defect, fraud and misrepresentation risk is significantly lower on refinance transactions, so the reduced risk of fraud and misrepresentation in July is largely due to the increasing share of lower risk refinance transactions within the mortgage market.

“This trend has surfaced in previous refinance booms. Fraud risk reached a low point in November 2016 amid the refinance boom between the fourth quarter of 2015 and third quarter of 2016, which pushed the share of refinance originations from 46 percent to 51 percent,” said Fleming. “Similarly, in 2012, overall fraud risk declined 4.7 percent, as the mortgage rate declined from 3.9 percent to 3.6 percent between the first quarter of 2012 and fourth quarter of 2012 and the share of refinances increased from 68 percent to 72 percent. As the chart shows, trends in the overall Defect Index often coincide with shifts in refinance activity in the mortgage market.

“The 30-year, fixed mortgage rate continued to decline in August, which is likely to boost refinance demand even further,” said Fleming. “In fact, according to estimates, the number of existing households that would be refinance candidates would increase to 11.6 million at a mortgage rate of 3.5 percent (as the prevailing rate would be at least 0.75 percentage point lower than their current rate), compared with just 2.9 million households when the mortgage rate is 4.5 percent. As the mortgage market composition continues to shift toward refinance transactions in 2019, the risk of defect, fraud and misrepresentation will continue to decline.” 

July 2019 State Highlights

  • The five states with a year-over-year increase in defect frequency are: Nebraska (+34.8 percent), Iowa (+25.0 percent), New York (+19.7 percent), Rhode Island (+13.4 percent), and Pennsylvania (+13.3 percent).

  • The five states with a year-over-year decrease in defect frequency are: Florida (-11.2 percent), Vermont (-9.9 percent), Arkansas (-7.7 percent), Arizona (-6.8 percent), and Texas (-6.3 percent). 

July 2019 Local Market Highlights

  • Among the largest 50 Core Based Statistical Areas (CBSAs), the five markets with the greatest year-over-year increase in defect frequency are: Buffalo, N.Y. (+20.3 percent), Pittsburgh (+15.5 percent), Kansas City, Mo. (+12.5 percent), San Jose, Calif. (+11.9 percent), and New York (+11.8 percent).

  • Among the largest 50 Core Based Statistical Areas (CBSAs), the three markets with year-over-year decrease in defect frequency are: Houston (-19.1 percent), Jacksonville, Fla. (-17.0 percent), Orlando, Fla. (-16.5 percent), San Diego (-16.5 percent), and Tampa, Fla. (-14.0 percent). 

    Next Release

    The next release of the First American Loan Application Defect Index will take place the week of September 23, 2019. 

    Methodology

    The methodology statement for the First American Loan Application Defect Index is available at http://www.firstam.com/economics/defect-index

    Disclaimer

    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. © 2019 by First American. Information from this page may be used with proper attribution. 

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; banking, trust and wealth management services; and other related products and services. With total revenue of $5.7 billion in 2018, the company offers its products and services directly and through its agents throughout the United States and abroad. In 2019, First American was named to the Fortune 100 Best Companies to Work For® list for the fourth consecutive year. More information about the company can be found at www.firstam.com

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