Predicting strategic default

The incidence of strategic default is on the rise. But before mortgage servicers can take action, they first must be able to identify strategic defaulters. Standard credit risk scores aren't sensitive to the quite different characteristics of these voluntary strategic defaulters, whose behavior is driven by incentive to pay rather than affordability.

FICO has recently published an Insights research paper describing a new analytic approach for finding those on the verge of strategic default—among delinquent accounts, as well as those who have not yet fallen behind on mortgage payments. Our research shows it's possible to know which 20% of accounts represents nearly 70% of your strategic default risk. This enables servicers to act sooner, to prevent losses and help customers avoid making a decision that will damage their credit standing.

The research leveraged a FICO-developed model aimed at teasing out the first signs of impending strategic default. Inputs to the model included credit bureau data and pooled master file data, as well as historical and forecasted property valuation data. This combination of data enables the model to analyze consumer credit behavior patterns with dynamic real estate market factors, such as relative change in property value over time and velocity of change.

The strategic default model identified 67% of strategic defaulters among the 20% of the nondelinquent mortgage population receiving the most risky scores. The most risky decile of borrowers were 100-times more likely to commit strategic default than the least-risky decile of borrowers.

The model was also precise in identifying strategic defaulters among a 30-to-180-day delinquent population (not yet written off). It found 76% of the strategic defaulters in the 30% of the population receiving the most risky scores. The analytic separation is again sharp—the most risky decile of borrowers are 200-times more likely to strategically default than the least risky decile of borrowers.

 

With this type of analytic, servicers can update their portfolio segmentation strategies to reflect the changing risk dynamics of today's marketplace. Segments can be created based on the dual dimensions of credit risk and strategic default risk.