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Increasing Short Sales May Bring Decreased RMBS Losses

--Leela Parker

Servicers are increasingly looking to short sales as a way of stemming foreclosures, and analysts at DBRS say this trend could mean fewer losses for residential mortgage-backed securities transactions. Short sales often result in a loss severity approximately 10-20 percentage points lower than that for REO liquidations, said DBRS in a report published today.

Short sales are used when loan modifications have been unsuccessful or when a borrower is looking at the possibility of defaulting on the mortgage and eventual foreclosure. In a short sale, the borrower sells the property for less than the full payoff amount of the loan. In the current environment, in cases where foreclosure is inevitable, DBRS believes the use of short sales as a loss mitigation tool is an effective means to mitigate the legal, real estate and maintenance costs that would otherwise be incurred.

"It’s more beneficial for RMBS investors to have servicers do short sales rather than unsuccessful loan modifications which will inevitably result in costly foreclosures. Therefore, doing a short sale early in the delinquency process for properties that will ultimately end up as an REO will reduce losses in the securitization," said Kathleen Tillwitz, senior v.p. of operational risk and surveillance for U.S. structured finance at DBRS.

Tillwitz points out that over 50% of loan modifications done in 2008 have redefaulted within six months, illustrating that loan modifications programs have so far been ineffective is bringing stability to the mortgage crisis. 

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