in From The Orb

Excerpts from the interview…

Q: When we spoke for an article that appeared in the November 2008 issue of Servicing Management, you suggested that a suitable visual representation of servicers’ REO inventory might be that of a boa constrictor that has just swallowed a large warthog. Now, almost two years later, how’s the snake doing?

Rick Sharga: The snake actually managed to digest almost all of that old warthog, but it came upon a second, potentially even bigger warthog and swallowed that now, too.

We’re really in the second wave of what looks like it’s going to be a three-wave foreclosure problem. That first wave was bad loans that were written on overpriced properties and issued to people who, in many cases, were simply not qualified for the loans. That led to a global economic downturn, which subsequently led to very high levels of unemployment, which has now generated a second wave of foreclosures.

That may well wind up being bigger than the first one was. And because that second wave hit, we have the prospect of a third wave, which is that there are hundreds of millions of dollars of adjustable-rate loans due to reset over the next 12 to 15 months on properties that have probably depreciated 30% to 50%. And because the market hasn’t had a chance to recover from the first wave, as those loans reset, they will probably become foreclosures.

Q: That leads to my second question. The July report was something of a mixed bag. Bank repos were up from the previous month, but new defaults seem to be tapering off. Is it too early to say we’re nearing a plateau in new problem loans?

Sharga: I’m going to give you a qualified yes. What we appear to be seeing is fewer new delinquencies. And what that suggests is, ultimately an end of the pipeline of problem loans, so that the more recent loan vintages are performing more along the lines of what you would expect historically.

The reason I’m only giving you a qualified yes is because I think we may read too much into the lower levels of initial defaults. I think that’s an artificial construct. What we’re seeing is loans becoming more and more delinquent before they enter foreclosure, so we actually should be seeing more of those in the pipeline than we’re currently seeing.

But I believe the banks are holding them out and basically letting them enter the foreclosure pipeline, as they believe they can sell them at the other end of the spectrum. And while we’re seeing that, we’re simultaneously seeing a rapid escalation of REOs. They’re processing the loans that have been in foreclosure for a while, but they’re slowing down the initiation of new foreclosures to manage the flow.

Check out the full interview here…