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60 | TH E M R EP O RT O R I G I NAT I O N S E R V I C I N G DATA G O V E R N M E N T S E C O N DA R Y M A R K E T ORIGINATION THE LATEST Defect Risk Intensifying Loan applications are rife with fraudulence and misrepresentation, First American index finds. T he overall risk of loan defects is rising, accord- ing to First American's June 2017 Loan Applica- tion Defect Index. June marked the seventh straight month the risk has increased. According to the index, the frequency of defects, misrepre- sentation, and fraudulence on mortgage loan applications rose 1.2 percent in June and 16.7 percent over the year. Broken down by loan type, defects on refinance loans jumped 2.9 percent for the month and 16.7 percent for the year, while defects on purchase loans rose 1.1 percent and 13.8 percent, respectively. According to Mark Fleming, Chief Economist at First American, the rise is due to higher mortgage rates and low inventory. "Following seven straight months of increases, the Loan Application Defect Index is now at the same level as almost two years ago in July 2015," Fleming said. "The market shift toward more purchase mortgages, coupled with rising rates and tight inventory, is generating the consistent upward trend in defect risk. Purchase transactions are inherently more at risk of defects, fraud, and mis- representation, and the pressures resulting from one of the strongest sellers' markets in recent memory compounds the risk of an error on a loan application." The index also ranked the country's riskiest markets in terms of loan defects. Raleigh, North Carolina, came in at No. 1, with a 49.2 percent year-over-year increase. New Orleans (up 25.6 percent); Tampa, Florida (up 23.4 percent); Birmingham, Alabama (up 20.1 percent); and Charlotte, North Carolina (up 26.8 percent) rounded out the top five. "Raleigh, North Carolina, is currently the riskiest market in the country, with a high level that is growing quickly," Fleming said. "In fact, all of the markets in this list are in the South. Combining the levels of risk and rate of change rankings of loan application defect, fraud, and misrepresentation risk reveals that major markets in North Carolina and Florida are highrisk, and the risk in these markets continues to grow at a strong pace." The top states for defect risk were South Dakota, North Dakota, Wyoming, West Virginia, and North Carolina. The defect frequen- cy in South Dakota has jumped 66.7 percent in the last year. Study Analyzes Shortage Issue The Trulia survey confirmed some reasons behind the absence of inventory—and debunked others. A recently released survey by Trulia proposed top theories that directly correlate to the inven- tory shortage. The results deter- mined which theories are factual or simply fiction. The theories tested included markets with a higher share of investors, a bigger recent price increase, and a larger increase in price spread. To determine mar- kets with greater inventory, the theory behind markets with more homebuilding was considered. The survey used multiple linear regression methods to estimate the impact of each of the major expla- nations for inventory while taking into account the effect of the other explanations. So what myths were confirmed, and which were busted? The first myth answered was that markets with more homes owned by investors have lower inventory, due to investors sitting on homes and renting them out. This was in fact confirmed. According to Trulia, every percentage-point increase in housing stock owned by investors was correlated with inven- tory that was 2.8 percent lower. The second and third low inventory myths are due to a more challenging trade-up and markets where premium homes are far more expensive than starter homes, respectively. Also, markets that have seen big price increases have lower inventory due to homes be- coming unaffordable. These myths are busted; neither rising prices nor spreads among homes had a significant impact on inventory. The final myth tested had the largest impact overall. The theory was that markets with more homebuilding would have more housing inventory. According to the data, this myth was con- firmed. The fact was that for every percentage-point increase in a market's housing stock, inventory increased approximately 13 percent.