The Defect Index reflects estimated mortgage loan defect rates over time, by geography and loan type.

October 2019 Loan Application Defect Index

• The frequency of defects, fraudulence and misrepresentation in the information submitted in mortgage loan applications decreased by 1.4 % compared with the previous month.
• Compared to October 2018, the Defect Index decreased by 13.9%.
• The Defect Index is down 33.3% from the high point of risk in October 2013.
• The Defect Index for refinance transactions decreased by 3.2% compared with the previous month, and decreased by 14.1% compared with a year ago.
• The Defect Index for purchase transactions remained the same as the previous month, and is down 8.5% compared with a year ago.

Chief Economist Analysis: Overall Defect and Fraud Risk Continues Slide
“Based on our analysis, if mortgage rates continue to fall, the pressure on fraud risk may weaken. This has played out throughout most of 2019, as the 30-year, fixed mortgage rate has been falling since December 2018, and overall fraud risk alongside it,” said Mark Fleming, chief economist at First American. “Fraud risk began declining in March 2019 and reached a historical low in October. The Loan Application Defect Index for refinance transactions has followed a similar trend, declining 14.1% between March and October 2019."

The Relationship Between House-Buying Power and Fraud Risk

“House-buying power is how much home one can buy based on changes in household income and interest rates,” said Fleming. “When household income rises, consumer house-buying power increases. Decreasing mortgage rates also boost house-buying power.

“Since December 2018, house-buying power has been increasing due to steadily rising household income and declining mortgage rates. In fact, house-buying power reached $421,120 in September 2019, the highest point in our analysis dating back to 1990,” said Fleming. “Yet, in October, when mortgage rates increased month over month for the first time since November 2018, house-buying power declined as well, falling 0.8 percent compared with the previous month. How might the mortgage rate-driven decline in house-buying power have played a role in ending the six-month decline in defect risk for purchase transactions?

“Potential home buyers may feel more confident and less inclined to commit fraud when they are in a better financial position to purchase a home,” said Fleming. “In a supply-constrained market, a decline in house-buying power makes it more difficult for potential home buyers to compete with each other, so they may feel more pressure to misrepresent information on a loan application.

“It’s important to remember that one month does not make a trend. House-buying power may decline further, but should remain strong by any recent historic standard. Additionally, new home construction is accelerating,” said Fleming. “More new homes may weaken the squeeze on supply and reduce competition among buyers and the pressure to misrepresent information on a loan application. As sellers’ market conditions loosen their grip on the broader housing market, defect risk on purchase transactions remains likely to fall.”

October 2019 State Highlights

• The two states with a year-over-year increase in defect frequency are: South Dakota (+4.8%) and New York (+2.4%).
• The five states with a year-over-year decrease in defect frequency are: Alaska (-34.4%), West Virginia (-22.5%), Virginia (-21.7%), Delaware (-20.3%), and North Carolina (-20.2%).

October 2019 Local Market Highlights

• Among the largest 50 Core Based Statistical Areas (CBSAs), only one market had a year-over-year increase in defect frequency: Hartford, Conn. (+3.2%).
• Among the largest 50 Core Based Statistical Areas (CBSAs), the five markets with a year-over-year decrease in defect frequency are: Virginia Beach, Va. (-25.8%), San Diego (-25.3%), San Antonio (-24.3%), Richmond, Va. (-23.7%), and Raleigh, N.C. (-23.2%).