Not all Defaults are Strategic- By: Paul Escobedo
A study done by Brent White, an associate professor of law at the University of Arizona found that many mortgage defaults were driven by emotion, such as anger or fear. The study that consisted of a group of 350 people noted that some of these individuals purposely defaulted due to anxiety about their financial position, while others are angry because they see others receiving assistance from banking institutions while they are not.
Mr. White’s study was originally intended to focus on the study of “strategic defaults”. A strategic default is when a borrower decides not to pay even though they can afford their mortgage. This is often done because of the expectation of future financial difficulty. This practice has become more common with homeowners who are “underwater” on their mortgages – meaning that they owe more on their home loan than their home is worth. Strategic defaults are described by Mr. White as a “rational response” for homeowners who are underwater on their home loans.
A report by Morgan Stanley placed strategic defaults at 12 percent of all home mortgage defaults in the month of February. In 2007, the percentages were less than 4%. The speed these figures are growing alarms many lenders. Lenders are worried that borrowers who just walk away from their mortgages will increase the industries losses related to foreclosures. Current, foreclosures related to losses are in the hundreds of billions.
Morgan Stanley discovered that these bank owned homes are more likely to be found among borrowers with higher credit scores and more money available to them. These individuals continue to pay on their mortgages whether they can afford to do so or not. Often because of the shame associated with walking away from their home loan. Mr. White states that many borrowers will not even consider a strategic default until they have greatly depleted or exhausted their life’s savings.
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