Alright, the next topic in the business process,
it also relates to risk management, and that's loss mitigation.
If you're in the business of bearing default risk, --
if you can reduce the cost of defaults, --
then you can have more profitable business, --
regardless of the level of defaults.
So loss mitigation becomes another important
kind of implementation function.
So one of the first things you do with loss mitigation
is you have to have a policy.
What do you do --
or what do you want the loan servicer acting on your behalf to do --
when the borrower is late one payment,
late two payments?
How quickly do you want to foreclose?
Do you want to have foreclosure alternatives?
Or do you always just want to foreclose whenever --
the borrower has committed the legal offenses, so to speak,
that justify foreclosure?
So should there be foreclosure alternatives?
Now, on a lot of these things, you're going to face legal constraints.
You might want to foreclose quickly, but the law doesn't allow it.
And the other constraints; --
which maybe I shouldn't put in the same category as legal constraints;
I'll put investor constraints or complications.
So, we'll talk about this more probably in another video,
but when there are investors in a mortgage loan,
there are going to be some contractual obligations that you have, --
if you're bearing the risk that they're going to cause problems,
or there may be conflicts between different investor classes
in terms of what would be the most profitable loss mitigation strategy.
Ultimately, this will take the form of legal constraints.
The contract terms involved
between the investors and whoever is servicing the loan.
So back to this issue of foreclosure alternatives.
There's what's known as a short sale --
where the lender allows the property to be sold --
for an amount that's less than the mortgage balance --
and just takes the loss that way.
An advantage of that is one of the big risks in --
the whole foreclosure procedure is --
that borrowers not only don't maintain properties,
but they'll actually steal things out of them.
You know, you can sell the copper wiring out of the house, for example.
Properties and foreclosure tend to radically depreciate, --
and so by doing a quick short sale --
convincing the borrower to sell the property earlier
rather than going through the foreclosure procedure
saved you some legal expenses, --
and also, it reduces this risk of
the property basically being gutted by the borrower.
Some companies try, --
as when the borrower is late with making payments,
some forms of counseling, or --
you can either go through an expensive process,
a labor-intensive process of working with the borrowers: --
counseling, working with borrowers.
Or you can try to save on the labor
and you just send out the notice saying, "Your payment's late," --
and then you send out the foreclosure notice.
So you can either be labor-intensive or not.
That's just a choice.
Finally, there's a choice, --
and, again, this may not be available because of legal or investor constraints,
but you can modify the mortgage.
You can say, "Okay, well, looks like you can't pay that mortgage,
but maybe we will lower the loan balance, or we'll lower the interest rate.
We'll do a loan modification."
Loan modifications actually have a terrible track record.
I just re-mention this; they have a very high re-default rate.
They had a high re-default rate in good times,
and to the extent that they've been tried --
in the most recent housing crisis.
They've had, if anything, an even higher re-default rate than good times.
So it doesn't work terribly well. It does not have a good track record.
It's labor-intensive, --
so it imposes a lot of costs on the servicers because
you really have to make a lot of judgment calls
about whether a modification will work,
whether it won't work, how to make it work.
And each case tends to be different, --
so it's a very labor-intensive process.
It doesn't have a good track record as far as --
saving money in the default process.
I should point out that, when I talked about legal constraints, --
each state has different rules.
Some of them are designed to keep borrowers, --
make it harder to foreclose, some make it easier to foreclose.
The easier it is to foreclose, usually the less cost and the lower loss.
The harder it is to foreclose, --
the more likely it is that the lender will lose a lot of money
by the time they get around to completing the foreclosure process.
So overall, this loss mitigation area is a very interesting area because --
if it's pretty typical to lose sort of 50% of the loan amount
when you go through a foreclosure; and I think that is pretty typical;
then if you could save a substantial portion of that,
that would be a big deal in mortgage lending.
That would really improve things a lot.
People often suggest that there are magic bullets involved in loss mitigation.
So, they'll say, "We think that if you do X,
maybe you will save substantial amounts of money."
And the potential is there to do it, but as far as I know,
none of these things, the short sales, the counseling, modifying mortgages, --
foreclosure alternatives, --
as far as I know, none of them is a magic bullet.
Sometimes they save money,
sometimes they make things worse in the end.
I don't know, --
at least as far as I know now, there are no --
magic bullets in loss mitigation.
No matter how you do it, how you deal with it,
with the loan default, --
there's a lot of labor costs involved, --
and there's a lot of financial losses involved.