Private mortgage insurance took even more business from FHA in 2Q

The growth gap between private mortgage insurance and Federal Housing Administration loans continued to widen in the second quarter, a result of the government agency's tighter underwriting standards due to the pandemic.

However, the pace that the PMIs' add to their insurance-in-force should moderate in the next two years, but that should still exceed the expected percentage increase in mortgage debt outstanding, a Keefe, Bruyette & Woods report said.

Insurance-in-force for the PMIs as of June 30 grew by 2.7% from the first quarter and 9% over one year prior. This compares with IIF declines at the FHA of 0.9% and 3.2% respectively.

"While we believe there has been ample demand by first time home buyers, this cohort has faced difficulties in the competitive housing market," Bose George, an analyst at KBW, said in a report. "We think the lower-credit-quality borrowers using FHA have likely been disproportionally less successful in winning bids, as home sellers opt for buyers with stronger credit (average credit score is 675 for FHA versus 750 for the government-sponsored enterprises) and lower financing needs (average loan-to-value is 95% for FHA versus low-80s% for GSE)."

The PMIs' penetration rate with new borrowers is exceeding the increase in net mortgage originations. Total mortgage debt outstanding was $11.44 trillion on June 30, up 1.3% from the first quarter and 5.2% from the prior year, according to the Mortgage Bankers Association.

The total mortgage insurance outstanding as of June 30 was $2.55 trillion, with $1.35 trillion from the private mortgage insurers (including a small amount remaining on outstanding books at Triad, PMI and RMIC, which are in run-off status) and $1.2 trillion at the FHA.

In the four years prior to the pandemic (2016-2019), the PMIs' insurance-in-force growth averaged 10% per year. But last year that slowed to 8%. Looking ahead, George expects IIF growth of 8.8% this year, before moderating to 7.5% in 2022 and 5% in 2023.

The MBA expects $11.76 trillion of outstanding mortgage debt at the end of 2021, growing to $12.24 trillion next year and $13.1 trillion for 2023.

"The same tailwinds for private MI remain: 1) Strong demographic trends with the largest subset of the population reaching the age of typical first time home buyers; 2) Very strong home price appreciation is reducing affordability, which increases demand for MI, all else equal, as borrowers are less likely to be able to afford the 20% down payment to avoid MI," George said.

This forecast does not include any potential growth from Fannie Mae's upcoming guideline change to allow rent payments as part of the underwriting decision.

"Fannie disclosed that in a recent sample of non-homeowners who were not approved via Desktop Underwriter, 17% of that sample would have been eligible if their rental payment history had been considered," George said. "Therefore, this underwriting change could draw borrowers on the fringe between FHA and GSE, thus being another tailwind for PMI growth."

Meanwhile, an FHA mortgage insurance premium reduction by the Biden administration is still a very realistic possibility in George's view.

"We believe a 25 basis point cut could occur after the end of the FHA's fiscal year (September 30), followed by the release of its annual report, which includes capital levels, in mid-November. This timeline suggests that a potential premium cut could occur in early 2022," he said.

George, however, reiterated his belief that a cut of that size only affects the margins of the market, possibly causing a "mid-single digit percentage shift" of PMI customers to the FHA. Even in the unlikely event of a 50 bp cut, only 10% to 15% of low down payment home purchasers would shift to the FHA product.

"With delinquency/forbearance rates still elevated, we expect the FHA to remain prudent in maintaining sufficient capital reserves until its credit conditions can be re-assessed once FHA forbearances roll off over the next few quarters (June 30, 2022 is the last expiration, though most plans will have ended before then)," George said.