Managing Defaults in Tough Times

CU360
March 23, 2009 | COMMENTS

Trouble in the subprime mortgage industry dates back to at least June of 2007, and concern over delinquencies and losses has grown steadily since then. As problems progressed, the ramifications of subprime mortgage lending have adversely affected many lenders in some shape or form.

Ultimately, there are steps financial institutions can take to maximize the overall effectiveness of their default-management operations, according to Aite Group. These include aligning the three operational strategies that support the lending lifecycle: origination, servicing, and default management.

Unfortunately, it's not likely that economic conditions and subsequent financial challenges will improve anytime soon. Consumer confidence is at a 30-year low, unemployment rates are creeping up, and very few key economic indicators are generating favorable results. If financial institutions struggled in 2007, when economic indicators were still pointing in a positive direction, how will they respond to current conditions?

So far, not very well, according to Aite Group. Historically, rising delinquencies and losses lag well after economic conditions deteriorate. If that's the case, many institutions' loan performance will only get worse in the foreseeable future. Banks continue to see record highs on delinquencies and losses for various loan products—a trend likely to continue.

There are several options lenders could consider in an attempt to rebound from current conditions. Aite's research focuses on the most likely and advisable actions to take among the nations top 100 banks.

Many lenders will just try to ride things out and weather the storm better than their competitors. Aite Group believes these lenders will be in the minority, and predicts 70% of the top banks will take some form of action and make a minimal investment to improve their current conditions. About half of the banks that take action, however, will simply do what they have to to meet regulatory requirements, and not much beyond. They'll focus primarily on changes to processes, policies, strategies, or staff, which will require moderate investment to implement.

Other banks will take significant steps to improve. They'll be willing to spend or invest in the future of their lending and default-management operations. This group will not only to take significant actions—such as conducting a thorough review, identifying required process, staff, and technology changes—but also invest a significant amount into implementing these changes.

Changes will include:

• Large-scale technology investments, such as more sophisticated collection systems that are fully integrated with the other lending platforms.
• Improved risk-modeling and behavioral-scoring capabilities.
• More sophisticated dialer equipment with real-time data and voice monitoring for more effective coaching.
• Revised organizational strategies to centralize, regionalize, or outsource part or all of their collection operations.

IT Spending

Aite Group expects IT spending associated with lending to jump in the next few years to cover upcoming regulatory requirements, and to improve the efficiency and effectiveness of various default-management processes. Currently, the lending industry invests approximately $2 billion annually in default-management technologies, from auto-dialers to sophisticated collection platforms that cover all stages of collections, recovery, bankruptcy, and support functions.

IT spending will most likely decrease slightly through 2008 due to budget constraints, with the most spending taking place in 2009 and 2010, and stabilizing in 2011.

Despite the difficulties, Aite Group reaches a hopeful conclusion. “By redefining and recommitting to their risk-management strategies, aligning their originations strategies with their default-management strategies, lenders can greatly improve their operations and their ability to manage rising delinquencies and losses in difficult economic conditions,” the report states.

The full report, Managing Delinquencies and Losses in Tough Economic Conditions, is available from research and advisory firm Aite Group at www.aitegroup.com.